7 Tips for Effective and Stress-free Budgeting

This is the fourth day in our 31-Day Money Challenge. Over 31 days we’ll publish 31 podcasts, each designed to help you move closer to financial freedom. Yesterday we walked through how to prepare your net worth statement. In today’s podcast, we discuss 7 tips for effective and stress-free budgeting.

Sponsors: The 31-Day Money Podcast is sponsored by Betterment and Personal Capital. Betterment and Personal Capital are two tools I use to make investing easier, less expensive, and more effective.

Effective and Stress-free Budgeting

Tip #1: Understand why you are budgeting

Budgeting without purpose is a waste of time. There are several important reasons to budget, but keep in mind that everybody’s financial circumstances are different. Some may budget to make sure they can pay all of their bills. Others budget to make sure they have extra money to fund retirement or pay down debt. The key is to identify why you are budgeting.

One approach is to ask the following question: “If my budget is successful, I will be able to _________.” Your answer to that question will tell you why you are budgeting and how to know when you’re budget is meeting your financial needs.

Tip #2: Budgets alone are useless . . . you must execute

How many times have you set up a budget in Excel or your favorite budgeting tool and then completely forgotten about it? Many times setting up the budget makes us feel like we are doing the right thing, but it doesn’t have any meaningful effect on how we spend our money. Budgets alone are useless; we need to execute on the plan.

Tip #3: Pay Yourself First

A very effective budgeting strategy is to set aside savings as soon as you get paid. By doing so, you avoid the temptation to spend that money later in the month. You also aren’t fooled into thinking you have more money available to spend than you really do.

The pay yourself first strategy can also be used to tackle debt. If you plan to have extra money to put toward credit card debt, for example, don’t let that money sit in your checking account until your payment is due. Make the payment immediately.

Tip #4: Budget Monthly for Periodic Expenses

There was a day when our car insurance bill drove me up a wall. Even though it came at the same time twice a year, it took me by surprise every time. It also put me in a bad mood for a day or two.

There are a lot of expenses in most budgets that aren’t monthly. In addition to car insurance there’s life insurance, vacations, gifts, property tax, and estimated taxes for some. The way to handle periodic expenses is simple.

Add up the annual cost for all of your periodic expenses. Then divide by 12 and set this amount aside each and every month. We put our cash for periodic expenses in a high yield savings account. Others keep the money in their checking account. Whatever you choose, you’ll have the money the next time the car insurance bill surprises you.

Tip #5: Expect the Unexpected (Emergency Fund)

There are some expenses you know are coming, but you don’t know when or how much. Home and car repairs are a perfect example. Here there is some guess work involved. We make the best estimate we can of how much to set aside each month. With enough experience, you’ll be able to make reasonable estimates for these expenses. And even if you come up short, at least you’ll have some of the cash you’ll need to handle these unexpected costs.

Tip #6: Budget for Big Items

Budgets often neglect the big purchases, like a car, that we know will eventually hit us. It’s a great feeling when you can pay cash for car. While some may view this as unrealistic, with a little planning it’s possible.

The last car I purchased was a used Toyota Camry. We paid cash. The trick is to start setting aside money for your next car now. Even if it’s years away, setting aside just a little bit of money each month now will enable you to pay cash when the day comes. The same is true with any other big purchase you plan to make.

Tip #7: Try the 3-Category Budget

Many people avoid budgets for one reason–the thought of tracking every dime they spend is just unbearable. If that’s you there is a simple solution–don’t. For many, there is no need to track every category of spending. Remember to think back on why you are budgeting in the first place.

If it’s to control your spending, figure out what spending areas cause you the most trouble. If you are like most, you can probably narrow it down to 3 categories or fewer. Then just track those 3 categories of spending.

Additional Resources

• A Simple Approach to Budgeting
• 10 Online Budget Tools
• 7 Budgeting Pitfalls and How to Fix Them
• 7 Reasons the Envelope Budgeting System is a Terrible Idea
• 3 Options for Budgeting with Variable Income
• 6 Steps to Creating a Budget that Works
• The Idiot’s Guide to Creating a Budget That Actually Works

Day 5: An interview with YNAB founder, Jesse Mecham