How to create a budget (and why it’s important)
Everybody looks forward to payday, but when you’re living paycheck to paycheck, it can’t come fast enough. How many times can you squeak by eating pasta for dinner and praying your landlord waits an extra day to cash that check before you figure out that there must be a better way?
It may not be intentional, but living on the financial edge is incredibly stressful. If we told you there’s a more effective way to manage your money, that you’ll be able to see where you’re overspending and even start saving, would you listen? Well, pay attention, because creating a monthly budget is the answer and it’s not as hard as you might think.
Most people think a budget is about restrictions–and that’s no fun. That’s also not true. People at all levels of income use budgeting to as a way to maintain control in their lives. The reality is, you can do anything and go anywhere you want, as long as you understand your cash flow and plan ahead. It’s all about making wise decisions and prioritizing what’s most important. It’s about having a plan, and that’s what a budget is.
Creating a budget
There are 5 easy steps to creating and managing a budget:
Step 1: What are my goals?
Write down your short and long-term financial goals. Do you want to pay off your credit cards, buy a house, start a family, retire in 20 years, fund your kids’ college education? It can be any number of things, but you have to have to have a reason that fuels your efforts. Otherwise, you’ll lose your motivation.
Make a list and post them in a place where you’ll see them every single day. If you’re a visual person, create a vision board. Regardless of whether it’s a list or a group of pictures, it should serve as a daily reminder of what you’re working towards.
Step 2: Where SHOULD my money be going?
We know there’s no budgeting equation fits everyone’s situation, but some general guidelines have proven to help keep people on the road to reaching their financial goals. Ideally, your spending should be divided among fixed costs, flexible expenses, and savings.
Your fixed costs are the bills that are generally the same amount each month, (e.g., rent, utilities, phone, insurance, credit card payments, car payment, etc.). Shoot to spend no more than 50% of your take-home pay on these expenses.
Flexible expenses are those that vary. Things like entertainment, groceries, gas, gifts, and clothing fall into this category. Thirty percent of your take-home pay is what you should aim to spend in this area.
Your savings has to be a priority if you’re going to reach your goals. You remind yourself of what you’re working towards when you look at that list or those pictures every day. In a perfect world, you could set aside 20% of your take-home pay into a savings or investment account.
3. Where IS my money going?
If you’re living paycheck to paycheck and you want to save some money, you’re going to need to start living below your means. That’s pretty difficult to do if you don’t understand where your money is going now.
Make a list of all your recurring expenses last month. Then, add in all other expenses including restaurant bills, groceries, lattes, shopping, dates, movies, and that late night Uber. Finally, how much were you able to save last month?
With all of those numbers in front of you, you should have a much more clear picture of where your money is allocated during the month. And, if the answer to the last questions is zero, you know it’s time to start prioritizing your spending and looking for ways to cut costs.
4. Create your budget
Now it’s time to create a budget that works for you and your personal needs.
Apply the percentages against your monthly take-home pay for fixed costs (50%), flexible expenses (30%) and savings (20%) and compare those numbers against your current needs. Are they realistic?
In the beginning, they may not be, but that’s no reason to give up. Look for ways to reduce expenses and cut costs. Shop cable providers, cancel that Netflix subscription, cook dinner at home, work to pay off that high-interest credit card. You’ll be saving money by getting rid of the interest charge sooner than later. Just be sure to keep your other credit card payments current. Every change you make is progress, and it’s one step closer to your goal.
5. Track everything you spend
The only way to know where you spend your money is to track it. There are apps like Mint, HomeBudget, and BudgetBoss, to name a few, that are designed help you create your budget and track your progress from your smartphone, computer or tablet. It’s the last step in the budget process, but it’s the most important. Tracking keeps you accountable and is a huge motivator, but if you don’t do it, all the work you’ve done to get this far will gradually slip away and you’ll be more likely to fall into your old habits again. Whether you do it yourself or use an online program, make sure you track!