When you are just learning to navigate life on your own, the prospect of juggling your bills while managing your income and avoiding debt pitfalls may seem overwhelming. The key is to budget. While many people think that budget is a scary word, it is really nothing more than a plan for saving and spending. There are many strategies and approaches to budgeting, but they all boil down to establishing financial goals, prioritizing your spending, and living within your means. By establishing a reasonable budget that fits your lifestyle, you will be able to control your finances rather than let your finances control you.
What Are the Benefits of Budgeting?
Budgeting is an important aspect of money management and is a critical tool for obtaining financial security. A good budget helps you achieve solid financial footing for the present and the future. Here are some good reasons for establishing and following a budget.
- A budget helps you focus on your goals. By setting targets and creating a plan to reach them, you have a reason to avoid haphazard spending so you can save money for something more important and valuable.
- A budget helps you avoid spending more than you earn. In 2021, the average household credit card debt was $5,525 according to mycreditsummit.com. Prior to credit cards becoming so commonplace, people saved money ahead of time for big purchases and waited until they could afford them. Credit cards make it easy to mindlessly spend until you have accumulated too much debt. The best weapon against overspending is a budget.
- A budget prepares you in case of emergency. In your life, you are almost certain to experience some sort of unexpected financial crisis, whether it's something big like an employment change, illness, or divorce, or something small like a fender bender or broken refrigerator. An important aspect of a budget involves planning and saving up for these types of emergencies.
- A budget helps you experience a comfortable retirement. While it's important to avoid credit cards and keep an emergency fund, its also critical to consider your long term goals. Part of a solid budget involves building investments to fund your retirement.
How Do I Start Budgeting?
Creating a budget can be a frightening and frustrating experience. You may find yourself unsure about where to start. If you follow these steps, you can create a budget with minimal headache.
- List your income conservatively, that means to keep it understated. Start with a list of the money you should earn in the upcoming month but cut it short (be very pessimistic about it, going with the least amount you expect to earn). It's better to have extra money at month end than to be in the red.
- List your expenses optimistically, overstated. Start with an inflated number for fixed expenses, including rent, food, utilities, and transportation. Remember to include some money for savings in your fixed expenses. It’s a good idea to get in the habit of paying yourself first before allocating money for other expenses. Next list all additional expenses, including entertainment, debt, insurance, giving, and additional personal spending. Be sure to overstate expenses so you don't have difficulty staying within the budget you set.
- Subtract the expenses from your expected income. If you have money left over, find a good use for it. Additional savings is always a good option, or you could opt to put it toward paying down your debt faster. If the number is negative, you will need to cut back on expenses or find a side hustle to earn more money. Focus on creating a zero-based budget where your listed income minus all listed expenses equals zero.
- Keep a record of expenditures. Consider a budgeting tool or one of many helpful budget apps for tracking your spending. The best way to stick to a budget is to monitor your transactions throughout the month to keep yourself accountable and avoid overspending.
- Create a new budget for every month. Use the information from the previous month to see where you were struggling and where you were winning, and implement that information in the next month's estimates.
What Makes a Good Budget?
A strong budget is a valuable financial tool, but crafting a good one is a skill that must be developed. A truly useful budget includes the following features.
- Include sufficient spending categories. Break down broad expense categories into narrower segments in order to create an accurate picture of your spending habits. For example, your entertainment category may be subdivided into club cover charges, streaming services, bar tabs, and Uber fees to give you a better idea of how you are spending your money.
- Ensure spending categories are accurate. Budget worksheets are helpful tools for creating a budget, but they may not fit your exact spending habits. Be sure you personalize your budget enough to reflect the way your money is used. Using a budgeting tool is a good way to track and learn your monthly expenses.
- Include irregular expense categories. Don't get stuck on the recurring expenses and forget about the ones that only happen periodically. For example, homeowner insurance might be paid annually and your car insurance may come due quarterly. And don't forget about seasonal or one-time expenses like Christmas or weddings. Figure out your annual spending on these irregular things, then divide by twelve and include that amount in your monthly budget.
- Ensure accurate income projections. Remember that income comprises half of your budget process and it is important that it is reflected accurately. Don't rely strictly on your total salary and forget to subtract taxes and applicable deductions.
- Remember to include savings. Treat savings as an expense in your budget rather than a use for the leftover funds at the end of the month. An emergency fund is an important savings account that you should accumulate early to avoid derailing your budget and racking up debt to deal with unexpected financial challenges.
- Account for cash expenditures. It's relatively easy to track money spent when you use a checking account and debit card, but cash spending can quickly drain a budget without you even realizing it. Be sure you write down cash purchases to avoid distorting your spending record.
- Review your budget regularly. By reviewing your spending on a monthly basis and creating a new budget each month, you can ensure you are accurately accounting for life changes and spending trends.
- Set, meet, and revise your goals. Financial goals should be a part of your budget and should remain a motivating factor in sticking to it. Create a realistic goal for yourself, and work hard to achieve it. Once the goal is met, revise it and set a new one.
How Do I Stick to My Budget?
Creating a budget has its challenges, but the real test comes with sticking to it. No matter how detailed you are with your spending categories or how much you understate your income, you will still likely have to make some tough decisions when it comes to the amount of money you can spend in certain situations. Here are some tips to make following your budget a bit easier.
- Include your family in your budget plan. Find out how much help you can reasonably expect, and in what situations it's acceptable to ask for assistance.
- Set savings goals to go along with your budget and identify areas you can cut spending to pad your savings a little more. Identify budgetary consequences from life changes, such as renting your first apartment (furniture, moving expenses, utilities), searching for and getting a job (traveling for interviews, building a professional wardrobe), and graduation (celebrating with a trip to the beach).
- Draw the line between wants and needs. When you budget you are forced to prioritize and make choices about your expenditures. Make a list of the things you'd like to purchase and label them as wants or needs. Prioritize the items, examine the available funds, and determine whether to put them in the current budget as an immediate need or a future want.
- Include savings in your monthly list of recurring expenses. Consider this paying yourself and make it a priority. You will be surprised at how fast it adds up. Fund your emergency account first. Once you have emergency savings sufficient to cover three to four months of expenses, you can start saving for the "wants" on your list.
- Don't let the unexpected derail your efforts. Your emergency fund exists to take care of unexpected expenses without requiring you to borrow money. It should be used to cover bills that crop up outside the annual and periodic categories on your budget list. If you have to use it, don't worry about it, that's what it's there for. Focus on replacing the money you spent and consider it a normal part of the budget cycle.
Although the budget process may seem overwhelming, it is a necessary evil to maintain control of your spending habits. Once you have created a budget to assist with managing your finances, you will be on track to achieve your short and long term financial goals.