Budgeting
Budgeting is all about spending your money. That's right; it's a spending plan.
Budgeting is the first and probably the most important step in your ability to live a lifestyle that allows for enjoyment in your day-to-day life while also ensuring that you are on track to meet your financial goals. Budgeting is both a mental and physical activity. It is not good enough to just think about your money and where you need to spend it. Being able to physically track your expenses, set goals for yourself, review and revise those goals, and then make changes to your plan is where the value of budgeting really comes into play. If you commit to consistent budgeting, you will be setting up a plan that allows you to take care of all of your needs and most of your wants because you will know exactly how much money you have to allocate to different areas of your life. All too often, people just take a guess at what they can afford on things in their life. "I guess I can afford that." "I think $500 per month sounds reasonable." In your life, don't leave things up to chance or guesses. Set up a budget.
Here are five steps in setting up your budget:
Assess yourself and your values
There are absolutely recommendations for people to consider when setting up a budget. You will actually find a recommended budget at the bottom of this page. These recommendations are great and typically allow people following them to live with a sense of financial security and well-being. Generally speaking, a person should spend about 10% of their net income on their car and related expenses. This is only a recommendation though. If you are a person who really loves cars and it means the world to you to have a very nice car, you may want to spend 20% of your net income on that car. You can do this, but you have to understand that you only have 100% of your money to spend. If you want to spend more on your car, you may have to cut back on one of the other budget categories. Just make sure it's not your savings - this should be non-negotiable.
This is what is meant by assessing yourself and your values as they pertain to your budget.
Organize your financial life
Once you have done some introspection and assessed your values and desires, you are now ready to get organized. This step used to involve collecting up all types of paperwork, statements, and files. Though this may still be true for some people, a vast majority of us now keep all of our financial lives online, in a cloud, or within apps that we keep on our phones. In this early stage of budget planning, you would be wise to organize all of these financial data points so that you have easy access to them for reference and review. As you being to set budget goals for yourself, it will be helpful to easily reference savings, investment, banking, utility, and other expense statements and information. It may also help you in planning for some of those expenses you might only pay once or twice a year. Remember, you still need to plan for those as well.
Track money coming in
Now that you are organized and have a realistic picture of what you value and desire to achieve, have, do, or experience, you can really get down to the business of budgeting. Well, at its core, budgeting is about balancing your income and expenses in such a way that you do not spend more than you are making. This is the whole point of budgeting; making sure that you are not accumulating debt from various sources because you are spending more than you are earning.
Most people have a main income from one source. To accurately track money coming in, you must also consider other potential sources of income that you might have. This income could be in the form of interest and dividends. It could be from a seasonal, part-time, or gig economy job. It might even be payments from alimony or child support. The key here is that you actually track each and every source of revenue that you may have.
Track money going out
In order to set up a budget that you will actually be able to use consistently over time, you will need to have a true and accurate picture of how you spend your money. Ideally, it would be great to track all of your spending for an entire year and then sit down and analyze that data to form a comprehensive budget. This is not practical for most people. What you can do though is to track every dollar you spend for at least 30 or 60 days. This should give you a good picture of how you spend your money while also affording you the opportunity to evaluate your needs vs. your wants. With this tracking, you'll be able to identify areas where you spend the most money and areas that may be able to be trimmed or added to once you set up your budget.
Review cash flow and set up a budget
Ok, it's time to set up a budget. You now have all the information that you need to start making some budgeting decisions. You have options here, and your choices should be based on your individual situations and experiences. A good rule of thumb is that you spend only 90% of your net income on expenses and living so that you can be sure to be saving 10% of your income. Doing this will help in securing your financial future.
Another important thing to consider here is your cash flow. Cash flow is about the timing of your money coming in and out of your budget. When setting up your budget, you have to think about when you get paid and when your bills may be due. Thinking about cash flow will help make sure you don't have to accumulate any debt because of the timing of income payments.
Example of a healthy budget using the percentage allocation method
- Saving should be at least 10% of your net income
- Housing should not exceed 30% of your net income
- Meals and eating out should not exceed 20% of your net income
- Utilities should not exceed 5% of your net income
- Car expense should not exceed 10% of your net income
- Electronics, phones, and the internet should not exceed 5% of your net income
- All other expenses are 20% of your net income
- Total percentages should equal your total net income of 100%