Navigating your finances without a budget is like taking a hike into the wilderness without a map; if you’re not careful, you’ll end up in treacherous terrain.
You may think you have a good idea of how much you spend, but the truth is you probably don’t know if you don’t have a budget.
A budget is an important tool for discovering funds you could be saving for your retirement or other financial goals. Or it could help you build up an essential emergency savings account if you don’t already have one. Most importantly, a budget helps eliminate unnecessary spending, which stops you from reaching your financial goals. You really can’t achieve these goals, or spend less money, without a budget. Let’s look at what a budget is and what you need to make one.
What Is A Budget?
A budget is a tool, written out or created in an online program, that helps you account for your income and spending. You track your spending against how much money you make and how much you’d like to save each month. Say you spend less in groceries than you budgeted for the month; that means you can take the excess and either apply it to another area, or put it aside in your savings. Conversely, if you spend over your grocery budget, you know you need to make some adjustments.
Step 1: Gather Your Financial Information
You can’t create a budget without your financial information. Collect these documents before you begin:
- Bank statements
- Investment accounts
- Recent utility bills
- W-2s and paystubs
- Credit card bills
- Receipts from the last three months
- Mortgage or auto loan statements
Step 2: Decide on a budgeting plan
While, yes, you’ll be plugging numbers into a spreadsheet and adding them up, you have to have a plan for how your spending is divided. A popular budgeting plan is the 50/30/20 budget. In it, 50% of your after-tax dollars go toward your needs (mortgage or rent payments, health insurance, groceries, etc.), 30% toward your wants (dining out, vacations), and the remaining 20% on savings and debt repayment.
Step 3: Calculate your income
If you have a steady-paying job, this part should be easy. Just look at your paychecks for a month, and add them for your net-income (what you actually take home). If you’re a freelancer, you may have to rely on your own system of tracking income to get a monthly number. Don’t forget to add in other streams of revenue such as Social Security or child support.
Step 4: Create a list of monthly expenses
What do you spend money on in any given month? Include expenses like:
- Mortgage payments or rent
- Car payments
- Personal care
- Eating out
- Transportation costs
- Student loans
Step 5: Identify fixed and variable expenses
Everyone needs to spend money on food, bills, and rent or mortgage payments. But what else hits your bank account every month? Tag the fixed (mandatory) expenses you have and distinguish them from the variable (changing) ones. Variable expenses, like groceries or entertainment, may look differently every month. Include savings or debt as fixed if you have a plan to save or pay off debt. Assign a spending value to each expense, and figure out what you’ll need to pay for it each month. Look at the last three months of your bank and credit card statements to determine the average amount for each category.
Step 6: Add up your income and expenses
This is the intimidating part, but don’t be afraid! If you’re worried that your expenses will be greater than your income, this is the time to find out and face the music. At least now you’ll know the truth, and can take steps to get back on track. And if your income is higher than your expenses, great work! Now you can plan where to put that extra income so you can reach your financial goals.
Step 7: Adjust your expenses
When we say “balance the budget,” this is what we’re talking about. You’ll probably need to adjust your expenses so that your income will cover them, and you can have some money left over. Cutting out the obvious offenders like “eating out” will be the first place you look, but you may also have to sacrifice things like unused subscriptions to make your columns equal out.
When you’re creating a budget, remember to keep the big picture in mind. You have financial goals that you want to achieve, and a budget gives you a reason to say “No” to things that may give you instant gratification. Once you start seeing the numbers in your savings go up, or a significant chunk of that credit card debt disappear, you’ll actually want to stick to your budget.
A financial advisor can guide you through this process as well as provide you with a detailed financial plan to reach your goals. CONTACT US today to speak to a local advisor to start the process!