Budgeting...The Simplest Way To Achieve Financial Success
To many, the term budgeting has a negative connotation. It is viewed as restrictive and limiting in terms of what can be done in the present.
This could not be further from the truth. Individuals, corporations, local/state/federal governments all create budgets to make sure their income is being used in the best way. Which is why you should not go another day without creating a budget!
Who Needs a Budget?
Regardless of what stage of life you are in, a budget helps identify whether your hard-earned money is being used in ways that are important and beneficial to you.
Whether you are a recent college grad, a married couple expecting their first child, newly retired, or anywhere in between, then you need a budget.
A budget, just like most areas of financial planning, is not a one and done event. Your life is constantly changing and therefore your budget will change as well. You will change jobs, receive promotions, start a family, adjust priorities and goals. All of these will require you to revisit and amend your budget.
No two budgets will ever look identical, so do not make comparisons. Two people in the same stage in life may have entirely different budgets. And the reason for that is your budget will reflect what you value and what is most important to you as an individual and family.
How Will a Budget Benefit Me?
A budget can change your life.
As previously mentioned, many people connect budgeting to being frugal and limiting. This could not be further from the truth.
Budgeting is about creating intention and understanding about how your money is being spent. It is about aligning what is most important to you with how you use your money, because unfortunately, money is a finite resource and therefore we must pick and choose how we use it.
Let’s say you enjoy traveling. Your budget is going to have higher line items for things such as plane tickets, hotels, perhaps a camera to document your journeys.
Compare this to someone who really enjoys golfing. Their budget is going to have more money allocated to tee times, golf balls and clubs and less money to travel expenses. And if you enjoy both…well hopefully you have a very high income!
Neither of these budgets are right or wrong, they simply reflect what is important to each individual.
By creating a budget, and most importantly tracking your cash flow over time, you will be able to identify areas that you are wasting money when you could instead be using that money on things that are more important to you.
Let's imagine that after creating your budget and tracking your cash flow for several months you realize that you are wasting a significant amount of money on eating lunch out. You may not even enjoy doing so, you just go out to lunch during the workday by default. If instead you were to cut back on eating out, you would then be able to better spend that money in areas that bring more value and joy to your life. Again, does this sound limiting?
Build Savings Into Your Budget Before Anything Else
Everyone knows that saving is critical to building a better financial future. Unfortunately, many people view saving as an afterthought once they have spent money on their needs and wants.
This type of thinking needs to be reversed. Often what will happen is if there is no money left at the end of the month to save then you will just tell yourself that you will make up for it next month…that never happens!
“Do not save what is left after spending; instead spend what is left after savings.” - Warren Buffet
Saving should be the first line item – or several line items – in your budget depending on what long-term goals you have. A general rule of thumb is to try saving 20% of your income. Once again, do not view this as limiting, but rather view it as paying yourself first.By making saving a priority you are ensuring that you are taking care of your future self.
What you are saving for will vary from one person to the next. For some it will be to build an emergency fund, for others it will be for retirement and yet others will be focused on saving for their child’s education. Many people will be working toward all three at once, which is fine!
Regardless of what you are saving for – even if you are not sure of the exact reason – make sure to build that savings into your budget so that you are always working toward improving your future.
Where Do I Start?
As surprising as this may sound, the first step in budgeting should not involve any numbers.
The first step is to determine what you value most and what is most important to you. Once you have a clear understanding of your values you can then start digging into the numbers.
Before you can create your ideal budget you need to understand your current cash flow situation, which includes both your total income as well as all outgoing payments. Group your outgoing payments into savings, fixed expenses and variable expenses. Savings should include any recurring amounts going into your emergency fund, retirement account or non-retirement investment account. Fixed expenses, such as housing, loan payments, insurance, etc. will be easy to determine since they are the same every month. Variable expenses, such as entertainment, personal care, travel, etc. will be more difficult since these expenses may differ from one month to the next.
Once you have completed the first two steps of knowing what is important to you and understanding your current cash flow, you can then create your budget by setting parameters around spending on certain categories.
A great rule of thumb is to adhere to the 50/30/20 rule.
Put no more than 50% of your money toward fixed expenses, 30% toward variable expenses and 20% toward saving. Increase savings if possible!
Lastly, and possibly most important, is tracking how your money is spent going forward to see if it aligns with your newly created budget. This will determine whether your money is going to the areas that you intend it to or not. If not then you will need to adjust your spending habits. Yes, that can be difficult, but trust me it will be worth it!
Do not think of budgeting as a limiting habit. If you alter your view and instead see budgeting as aligning your values with how your money is used (as well as some built in savings) then you should see budgeting as a cornerstone to living a life by design and not be default.