How To Create a Budget You Can Keep
There’s no point creating a budget that makes no difference to your spending. Like a failed new years resolution you really needn’t have bothered. So here’s a guide on how to create a budget you can keep.
Begin With Motivation
You’ll never keep at anything if you don’t have a driving answer to the question of why? Keeping a budget is a task and tasks are by nature monotonous. You need discipline to keep at it. And that comes from knowing why you’re doing what you’re doing. So you need to start with the why. If you haven’t read my post on the purpose of budgets, that might be a good place to start. Knowing why YOU in particular need a budget is the place you need to begin. Think about what you want to achieve. It might be that you want to control your spending, it might be that you want to spend on the right things and not the wrong things, it might be that you want to pay off you’re mortgage or save up for your retirement goal before you hit 67. But stop and think about why you want a budget. What are your goals? How will a budget help you? Knowing the answer to why is the key to knowing how to create a budget you can keep.
Think About Priorities
Budgets are not just about numbers, but priorities. What you spend on or don’t spend on is a reflection of your priorities. What matters most to you. Problem is that we tend to waste money on things that are less important and fail to spend on the things that are (just like our time- but that’s another post!). That’s why it’s important to list out what is most important to you. What are your priorities? Is it you family, marriage, early retirement, giving generously, a good education, connecting with friends, travelling? What is worth spending on and what is less important and so worth cutting back on. Every spend is a question of priority. You have a fixed income, so every dollar spent on one thing is a dollar not spent or saved somewhere else. If you spend so much on alcohol, that’s less you have for something else. So before you put down numbers you need to list out your priorities. Write down the 5 most important things that are worth spending on. Is it dates with your wife, your kids education, travelling or a certain hobby? What’s important to you may be different to me. That’s fine, but know what you’re willing to spend on. And what are 5 things you think you could and probably should cut back on? Do you eat out too much for convenience sake or have a habit that’s costing you dearly. With your priorities in hand, you can now decide where you want to spend your dollars.
Reverse Engineer Your Savings Goals.
The aim is to spend less than you earn. The bigger that gap the higher your savings rate. The higher your savings rate, the sooner you can be financially independent. Now, if you haven’t done the math on retirement, you probably should. The younger you are the better. But I can pretty much assure you that super will not get you there alone. You can check out my post on exactly how to do that here. Have some fun, work out when you want to retire, how much you’ll need and reverse engineer how much you need to be saving year on year. Most books aim at a savings rate of 10-20%. This is a great starting point, particularly if you are younger. If you’re not saving 20%, that should be your first goal. If you’re already there you can push on. I’ve always aimed at over 40% if possible. There’s been seasons of studying where it’s not been possible. But by and large we’ve always saved over 40% of our income. That’s meant that our home is paid off and we have excess money to invest. That money generates more income which means our savings rate will increase over time. The compounding effect will grow and grow. And the earlier you can get started on this, the better. So now you know why you want a budget, you know your priorities and you have a savings goal. Now it’s time to do the budget itself.
Calculate Your Income
It’s time to get out a spreadsheet. You can make your own spreadsheet or you can use mine here (this is set to auto calculate with yearly figures, if you put in monthly figures make sure to adjust the yearly column by multiplying by 12). List down all your sources of income for the year. You may have a fixed income or a variable income. If variable, try to average it out over a year. Don’t forget to add in super, it’s your money, even though you can’t access it for a while! This is what you’ve got to work with.
Take Out Your Savings First
If you’ve worked out your savings goal, make that the first item you put in your spending budget. Set it aside. This is to ensure you have a financially sound future. Treat this as a cost. You’ll be taking this out the day after your pay goes in. You might put it into a high interest bank account, into your mortgage or invested in shares. But this money is to be taken out first and put to work.
Add In Your Fixed Costs
Your fixed costs are those things that don’t change month to month, year to year. Mortgage, rent, utilities, broadband, insurances, mobiles, rego, school expenses, car maintenance, fuel, tax (don’t forget this or you can take it out of your income). All those pesky bills. You can’t avoid them so you need to account for them first. That doesn’t mean though that you can’t reduce these fixed costs. In fact, some of the greatest savings can be made right here. Make sure you have the cheapest mobile plan (you don’t need the latest phone! Get a few models back and buy a cheap plan with Kogan or Vaya). There’s so much wasted on mobiles. Change utility providers, make sure you have the cheapest mortgage available (ubank is the best I’ve found), shop around for insurances (you can do this before renewal time too and get refunded). Do all you can to minimize these costs. It takes a little research and phone calls. But you will save thousands if you do, so do it! Now that you’ve got your reduced fixed costs, it’s time to decide on your discretionary spending.
Discretionary Spending Last
If you’ve set up your budget to auto calculate as you go, you should see how much money you have left after your fixed costs and savings are removed. Hopefully, it’s not too scary! This is what you have to spend on discretionary items. That is, the things you can choose to spend more or less on. Things like food, eating out, entertainment, holidays, furniture, house improvements, clothing, presents, giving, completely discretionary his/her spending, hobbies/activities, savings for larger future purchases (like a car), etc. Yes, you do need most of these things. But you decide how much or how little you spend. This is where your priorities come into play. You have a finite amount to spend, so you need to decide what you spend on and what you cut back on. So it’s time to make some hard decisions based on your priorities. Start with your needs and move to your wants. So groceries before that new gadget! I think if possible, it’s worth making a line item for unexpected expenses. You never know when the dishwasher breaks down or the car needs a big expense, so it’s wise to plan for this. You should also plan to put aside money for bigger purchases you foresee coming. If you want a new pergola or an overseas trip, budget for these, even over a few years if necessary. Once you’re done you have your budget for the year. But your not done yet. You need to move your budget into your life.
Take Out Your Savings Straight Away
The first thing you need to do is to take out your savings amount the day after your wages are deposited. Set up a high interest account to whisk this money away to before you know it’s there. If you have a mortgage, I’d save that money into my mortgage account. But make sure this money goes first and you don’t touch it. If you don’t have the money to pay for something, try not to raid this account. If you’ve budgeted well, you should have money in your working account to cover costs. You might also want to put aside money for things you are saving up for in your budget. Most banks let you create sub accounts that you can name, car upgrade, house reno, etc. Put these amounts aside if there’s bigger items you’re saving up for. We also at this point take out our regular giving. So now your savings are set apart and you can live of what is left over.
Track Your Spending
You could just guess if you’re keeping budget or you could know. Knowing is better! And that means tracking your spending. If you don’t track your spending, your budget is nothing more than a pipe dream. To bring your budget into your life, you have to track your spending. Especially your discretionary spending. Today there are plenty of apps to help with this. I use Home Budget ( iOS, Android) as it can sync with my wife’s devices, works in Aus and we have an accurate up to date picture of our spending. We input our budget amounts each year and our reoccurring and fixed spending once a year. And then enter our discretionary spending as we spend it. It’s a habit now that doesn’t really take long. But I can tell you exactly how much we’ve spent every day, every month, on every item. I know exactly how we are tracking against our budget, how much we have left to spend each month and year in each category. So there’s no guesswork. Both my wife and I have access to the same info. This helps us stay on track. I can see if we have money for eating out or not. I know what’s there to spend on clothing or house maintenance or whatever.
Once you track your spending, you may be surprised by where your money is going. You may need to adjust things early on to be a bit more realistic. Then, year to year you’ll need to adjust your budget as the cost of living increases. By tracking your spending you’ll have a complete picture of where everything is spent. You’ll know how much you are saving and you’ll be able to adjust your budget as needed. And once a year revisit your goals and priorities and rejig the plan for the following year. If you have a partner this will be a process you’ll need to work through and agree on together. Once you do, it helps take a lot of the stress about spending away. They say most fights begin with money. This process removes the conflict. A once a year discussion about money sets you up for the year, with agreed goals and priorities. But there’s one more point that will prevent stress and conflict too.
Don’t Be Too Pedantic
The key with tracking your spending is to not get too pedantic about it. Some months you are over, other months under. Some areas you will go over for the year, but others you will be under. If you’re within 10% of your budget, don’t worry about it. It doesn’t matter if you’re a bit over or under. So chill out. The fact is by going through this whole process you will be most certainly saving way more than you would have otherwise. You are being wise about your spending in line with your priorities and goals. So don’t stress about the small stuff and keep the bigger picture in view.
So there’s the steps on how to create a budget you can keep. I’ve been doing this for years and it works. It’s not stressful. We have goals and priorities that we know are reflected in our spending, saving and giving. So now it’s up to you to decide what you are going to do. Be wise.
*image used by permission, see http://www.everystockphoto.com/photographer.php?photographer_id=115408