Photo: 401(k) 2013
Do you live in fear of overdrawing your checking account when several bills come due? Do you carry a credit card balance because you’re living beyond your means? Do you have no idea where your money is going each month?
If you answered “yes” to any of these questions, you need to learn to budget.
Don’t panic. Budgeting doesn’t have to take a lot of time, effort or number-crunching. A budget simply puts you in control of your cash flow, instead of the other way around.
Yes, setting up and tweaking your budget may take a bit of time. But once you get it down, you’ll be good to go – and you’ll feel much more in control of your finances. If you need help managing your current budget – or if you’ve never used a budget in your life – this guide will help you create a budget that works for you.
Why You Need a Budget
The purpose of a budget is to put you in control of your personal finances. Without some sort of spending plan, most of us will overspend and under-save. With the U.S. personal savings rate hovering at a rock-bottom 2.4 percent in January, it’s clear that many Americans aren’t budgeting, so they not saving.
A basic budget, however, can help you achieve other goals. The Consumer Credit Counseling Service of Orange County notes that with a budget you can:
- Know when your bills are due so that you can pay them on time.
- Know where your money is going, which helps you cut back on spending when you need to save more.
- Plan for periodic expenses like insurance, or save for major purchases like new appliances or a new car.
- Have money set aside for regular maintenance and unexpected repairs on your home, appliances or car.
- Save money for retirement, college, a home or other major priorities.
To do these things, you need some sort of budget. But how do you create a budget that works?
Figure Out What Works for You
Here’s the secret that most people don’t understand: there’s no one, right way to create and use a budget.
Budgeting is intensely personal. If you don’t understand that, you’re probably going to fail at budgeting.
Case in point: Rob Berger and I budget differently. In this article, Rob lays out how he finally arrived a budget that works for him.
Essentially, Rob operates his personal finances on a super-streamlined budget. He saves a certain percentage of his income first, and then spends out of what’s left over. Rob keeps a closer eye on spending areas that can be problematic for his family to ensure they aren’t spending more than they should.
I, on the other hand, use a detailed budget, and I love Mint.com. My family operates on a pretty tight income, so I like to know exactly where our money is going. We even use a cash budgeting system for certain expenses. Also, I’m not great at remembering to write down transactions, so I use a budgeting tool that automatically imports our transactions.
These are just a couple of ways to budget. Another option is to create a cash flow plan, instead of a traditional budget. A cash flow plan will track when you’ll have money available so you know when you should pay certain expenses.
The key is that you need to learn what works for you. If you get distracted and bogged down by details, simplify it. If you want to know exactly what’s happening with your spending, create a more detailed plan.
Know Where You Are Financially
Whichever budgeting option you decide to try, you need to understand where you are financially to get started.
The biggest mistake new budgeters make is misestimating expenses. Maybe you’ve read some great blogs about families who live on a very tiny budget, and you think you should be able to do that, too. So you decide you’re only going to spend $200 on groceries this month. Sure, some families of five can do that (with lots of practice). But your family regularly spends more like $600 a month on food. Shooting for such a drastic change in your spending is unrealistic.
At other times, new budgeters don’t have a clear idea of what they have been spending. If you assign spending categories a random value, you’ll feel like you’re failing when you spend more than you budgeted – even if your actual spending is reasonable.
So now’s the time to look over your spending for the past two or three months. If you don’t save receipts, then look at your credit card and checking account statements.
Account for fixed expenses first, since those are easiest to deal with. If you don’t have a record of due dates, write down the due dates for these bills.
Then, figure out what you spent on variable categories. If you’re like Rob, you may look at your variable spending as one lump sum, or you may decide to separate out one or two problem areas. If you’re more like me, you might divide your variable spending into several categories: Groceries, gas, childcare, clothing and personal allowances are some of my categories, for example.
Next, try to factor in one-off expenses like insurance, vehicle maintenance, and birthday and holiday gifts. These expenses can be frustrating if they pop up “unexpectedly,” so try to work them into your budget from the start. If you can save for them a little at a time each month, they won’t be a problem.
Finally, set a savings goal. The recommended savings rate is between 5 percent and 50 percent, depending on your age and income level. But that’s just retirement savings. Don’t forget to save for emergencies, for major purchases or vacations, and for your kids’ college.
When you know about what you normally spend on things, make a budget that prioritizes savings and lets you spend within your means for the next month.
Put it All Together
Now that you know what you’ve been spending, you can set reasonable spending goals. Again, customize your categories, which you can do using most online budgeting tools or with your own spreadsheet.
Remember, how you set up your budget is entirely up to you. But it’s best to keep it simple. That way, you won’t become frustrated with the details and give up. The goal is to create a habit of being aware of your personal finances so that you can save and live within your means.
Give it Time, and Make Adjustments
Many people give up budgeting after one or two months. Why? Because their budget doesn’t seem to work.
If you’re always overspending in one category or if you’re still using credit cards too much, you may think budgeting isn’t doing you any good. It will — if you just give it time.
The key to a good budget is flexibility and learning.
Any time you’re coming in overbudget or underbudget in one category, adjust that category or adjust your spending. If you’re consistently overspending on dining out, you need to do one of two things: cut back on dining out expenses by eating out less or choosing cheaper restaurants, or put more room in your budget for dining out. It’s that simple.
It takes most people about three months to create a workable, realistic budget. If you’re mainly tracking your problem spending areas, it will probably take less time than that. Just roll with the punches and make adjustments as you need to.
If you’re tempted to give up because budgeting is too time consuming, you’re working with too many details. It shouldn’t take more than a few minutes a week to track your expenses and stay on top of your budget. If you’re spending much more time than that, you’re putting way too much thought into the process.
If you’re new to budgeting, these tips will help you get started on a spending plan that will help you live on less than what you earn so you can save money. Just remember: budgeting is personal, so don’t be afraid to customize it. This one tip will serve you better than all the “expert budgeting methods” out there.