Budgeting Doesn't Have To Take A Ton of Time
Whether you run a Fortune 500 company or a family, budgeting is the foundation of your financial success. A budget helps you understand how you spend your money, and place your high priorities at the top of your spending list. Unfortunately, most families don’t have nor follow a budget.
Why Most Don’t Budget
In my experience teaching Personal Finance in colleges for over a decade, there are two main reasons people don’t budget. First, they don’t want to be forced to sacrifice; and second, budgeting takes too much time. If you fall into one of these two categories, this article will solve those problems, making it easy for you to maintain a basic budget.
Myth: Budgeting Forces You To Sacrifice
Many don’t budget because they don’t want to sacrifice any of their spending. My guess, though, is at the end of the month you aren’t worried about all the extra money in your checking account and stressing over how you will possibly spend the money. Instead, there are likely a list of things you would like to do if you could afford it. If you’ve ever uttered the phrase, “I wish I could _______ but I don’t have the money” then you are already sacrificing something.
Budgets don’t force you to sacrifice. Budgets put you in charge of what you sacrifice and what you don’t want to sacrifice. I don’t even like calling budgets ‘budgets.’ I like calling them spending plans, because a budget should be your plan for how to spend your money.
Myth: Budgeting Take A Lot of Time
Unfortunately, the type of complex budgeting financial advisers do as part of a financial plan does take a lot of time to set up and manage. But you don’t need to start off with a complex budget. The Purposeful Finance Basic Budget (PFB Budget) is a quick-start version of a budget which will provide you with many of the benefits without spending all of the time.
Once you’ve gathered your checking and credit card statements, you can likely complete your budget in about 15 minutes. A PFB Budget is a great starter budget for those beginning their journey toward financial independence.
The Purposeful Finance Basic Budget
The PFB Budget provides you with a quick estimate of how you spend your money, then help you direct money in a purposeful way. The budget won’t provide you with a granular plan for your money and how you spend it, but it will begin to give you control of your spending.
More importantly, the budget will make sure you budget with a purpose; your priorities being the first items funded. Gather your checking and credit card statements and you’ll be ready to go. (Take the Purposeful Finance Budget Challenge and get a free budget worksheet to help you budget)
Step 1 – Your Income
The first step in building your budget is to list your basic income. Your pay stubs and checking account statements should provide your take-home pay, but not all your pay is basic income. Your basic income is the money you can count on every single month. It does not include overtime, bonuses, or other incentive pay. If you have a job where your income varies, such as serving or sales, list off the income you earn in your lowest-earning month.
By basing your budget on the worst possible income scenario, you’ll be guaranteed to be able to keep to the budget. If you were to list income you earn with overtime or bonuses, your budget will be worthless in the months where you don’t earn the extra income.
Step 2 – Your Fixed Costs
The next step is to list off the fixed costs in your life. Fixed costs are monthly expenses you have to pay on in order to maintain your life. “Maintain your life” means if you do not pay the expense, either your health will be negatively impacted, you will lose your job (or other income), or you will be breaking the law.
Fixed costs include things like your rent or mortgage, utility bills, grocery bills (not dining out), car payments, and insurances. Review your credit card and checking statements to find all the expenses you can categorize as a fixed cost. As you list them on the budget, cross them off on your statements.
Once you’ve listed all of your fixed costs, add up the total and deduct it from your income. This will provide you with your discretionary income.
Step 3 – Optional Obligated Costs
Your Optional Obligated Costs are those costs you have to pay every month, only because you’ve chosen to ‘sign up’ for them. These are expenses like your gym membership, your cable bill, and your cell phone. Any expense on your statements you pay every month but you can live without, list in this category.
There is nothing wrong with having any of these expenses, but these are often the best places to look to free up money in your budget to accomplish your goals. Cutting your monthly cable bill could free up enough for two round-trip tickets to a Mexican resort. It is up to you whether you would prefer cable or the plane tickets, and neither choice is wrong.
Optional Obligated Costs will also include your minimum payments on your credit cards if you carry a balance or any other loan payments not already listed. Although you can’t ‘cancel’ loan payments without a bankruptcy, you can choose to accelerate paying them off, which would remove the cost from your budget.
Again, review your account statements and cross off expenses as you record them in your budget. Add up your optional obligated costs and deduct them from your discretionary income.
Step 4 – Variable Costs
The last step involving your account statements is to list your variable expenses. These are costs which either vary month by month or which you don’t pay every month. Variable Costs will likely include dining out, entertainment, clothing, vacations, and everything not yet accounted for on your checking and credit card statements.
You should also add any expenses you can think of which are not present on the account statements. These could be expenses like new clothes or gifts during the holidays. If you spend $600 per year on holiday gifts, break that down to $50 per month.
List the expenses in the budget as you cross them off on your statements. At this point all of your credit card charges and checking account payments should be crossed off on your statement. If anything is left, categorize it in the most appropriate category.
As you record Variable Costs, estimate how much you spend each month add 10%. Unfortunately, these expenses are not consistent, so you cannot count on your monthly statement or memory to get an accurate cost. It is much more likely you will underestimate the true cost than overestimate.
Add up the Variable Costs and deduct the total from the income you have left over from Step 3. If you have a negative number, that is ok. You’ll fix it later when you build your budget, but you have identified you may be overspending.
Step 5 – Your Financial Goals
Finally, add in the financial goals you want to accomplish in your financial plan, such as investing for retirement, taking a vacation, or saving to buy a home. As you list the goals, enter the monthly amount you would need to spend in order to accomplish each goal. If you don’t know how much you would need to spend, you can learn how to calculate the cost of your financial goals here.
Add up the cost of your goals and enter the total under the Goals section. You now have the amount of money you have to free up from steps 2-4 in order to accomplish your goals!
Step 6 – Prioritize Your Goals
Once you’ve listed all of your expenses and your goals, re-build your budget based on your priorities. That is, make your budget reflect how you want to spend your money rather than how you currently spend money.
Don’t Ignore Necessities
Begin budgeting your fixed costs by reviewing if you can reduce any of the costs. These are the most difficult to change, but you do have some control over fixed costs. You could look at downsizing your home to reduce your housing expense, reduce your grocery spending, or sell a car to buy a cheaper option with better gas mileage/insurance rates.
If you do find ways to reduce any fixed costs, enter the new expense and recalculate your discretionary income.
Focus on Priorities
Next, look at the rest of the expenses in Optional Obligated Costs, Variable Costs, and Financial Goals as a whole. Make sure to include any goals you couldn’t afford before when you review your expenses. Don’t, however, simply go down the expenses in the order you wrote them.
Instead, review everything on the list and choose the one most important to you. Whichever is your top priority, write it in your new budget along with the cost. Then identify the next most important expense and repeat the process.
As you enter each expense according to your priorities, deduct the cost from your discretionary income. You will keep adding your priorities to your budget until you run out of money. Anything unfunded in your budget should be eliminated from your spending; not because the expense is irresponsible, but because you have other priorities you care about more.
Add Back in Extra Income
There is good news though! Remember your income number was based on your basic income, not including overtime nor bonuses. You still have the opportunity to fund some of the expenses you ‘cut’ when you earn overtime or get a bonus. Now, instead of relying on extra pay to make ends meet, you’ll be able to use it to treat yourself to something special.
Take the Budget Challenge
Challenge yourself to build a budget you'll actually stick to. It takes just 15 minutes to build a budget based on your priorities and how you want to spend your money. Visit our budget challenge page and commit to getting in the best financial shape of your life.
Joshua Escalante Troesh is a tenured professor of Business at El Camino College and the founder of Purposeful Finance. His career provides him with a unique insight on personal financial, having been a VP at a financial institution leading up to 2008, and involved with technology and internet stock research leading up to 2000. He can be reached for comment at info@purposefulfinance.org