The Importance of Setting a Budget
First of all, what is a budget? Essentially it is a comparison of how much you earn vs. how you spend your money. Why is it important? It helps you determine what you must spend money on, and where you can save or even stop spending money.
According to this article from Forbes, 63% of Americans don’t have enough savings to cover a $500 emergency. That’s stressful! Building a framework for your spending allows you to make adjustments as necessary to help reduce stress and reach your financial goals.
On a personal note, we didn’t set a budget until we had been married for a while. I wish we had set one sooner. It could have saved us from some financial disagreements early on. However, I’m glad we finally set one when we did! Last year I had to have a very costly and unexpected surgery. Without our savings, we’d still be paying for the procedure.
Step 1: Determining Your Financial Goals
What are your financial goals? Do you want to eliminate credit card debt or pay off student loans? Do you want to start an “emergency fund”? Or begin saving for retirement?
Whatever your goal may be, write it down! Especially if it’s a large goal. From here you can start plotting steps to get where you want to go.
Step 2: Determine Your Expenses
There are two basic types of expenses, essential and non-essential.
Essential expenses are necessities– the things we require for living. Essential expenses can be broken down in to two main categories, fixed or variable.
Fixed Expenses– Items that are billed on a regular basis- weekly, monthly, or quarterly- and cost roughly the same each time, like:
- Mortgage Payments or Rent
- Car Payments
- Insurance (homeowners/renters, car, health)
- Student Loan Payments
Variable Expenses– Bills with amounts that vary from month to month, like:
- Credit Card Payments
- Utilities (gas, water, electricity, trash)
- Vehicle maintenance
- Home maintenance
To determine an average of how much you spend on each type of variable expense:
- Gather your receipts or bank statements for the past three months
- Use your statements to add all your expenditures in each category
- Divide your totals by three, and that will give you your average.
Other expenses– You may be thinking, “What about all the other things I spend money on?” Those other expenses fall into the “non-essential” category. Not that they aren’t important! They just happen to be items that one could live without.
Step 3: Compare Your Income Vs. Expenses
Once you’ve determined what your monthly expenses are, make a list with the type of expense and the amount. Add those together. Then you’ll subtract that total from your monthly income. See example below.
Once you know what you’re working with, you can start making decisions. You may choose to cut back on or eliminate some expenses entirely.
Tip: If saving is your goal, ad a “savings” line to your budget. Transfer a specified amount into savings each month.
To stay on pace toward your financial goals, it’s important to continue tracking your spending each month. Find a method that works for you. If you’re not comfortable with the method, you won’t do it! Some may prefer the old-fashioned pen and paper way, for others it’s an Excel spreadsheet. That’s great! There are also online platforms like Mint.com and EveryDollar. Around our house, we use Mint. We love how easy it is to use, and best of all, sends alerts right to our phone if we’re getting close to our spending limits.