Let’s be honest: Setting up a budget and monitoring your spending is tough. It can be time consuming, restrictive, and something that is always on your to-do list for tomorrow. But it doesn’t have to be that way.
When done right using a budget to have control of your money can be empowering and can help you reach your financial goals with ease. It can even help you plan for the occasional splurge (guilt free!). The basic concept of a budget is simple—spend less than you make. But creating a budget that is both empowering and easy to stick to is a little tougher.
Step one: figure out where your money goes.
Source: Mochi Things
Before you can create a budget, you need to understand where your money is currently going. For most people this is the hardest but most rewarding part.
If you use Mint or another budgeting program (click here for our favorite apps), download your spending from the past three months. If you don’t use a budgeting program you’ll have a little more legwork, but it’s worth it. Download your bank and credit card statements from the past three months. Start lumping things into categories such as:
- After Tax Income: money that you earn during the month, after taxes have been taken out
- Needs: rent, utilities, basic groceries, car payment, etc.
- Wants: eating out, shopping, gym memberships, Netflix, etc.
- Savings: emergency fund, savings for future purchases (such as a house down payment), retirement
Step two: take a look at how your spending compares to these guidelines.
- No more than 50% of your after tax income should be spent on needs
- No more than 30% of your after tax income should be spent on wants
- At least 20% of your after tax income should be saved
How does your monthly spending compare with the guidelines above? If you’re not quite on track, that’s OK. When most people assess their budget, they are shocked to find out where most of their money goes. Spoiler: eating out or frivolous purchases eat up more than you realize.
If this guideline doesn’t work for you, it’s okay to adjust it with your life. For example, you may be allocating less to savings because you are paying off debt. The point is that you are looking at your “needs” and making sure they are just that and ensuring that your “wants” aren’t so much that they are keeping you from financial security.
Step three: prioritize your spending.
Take time to reflect on what you are spending and where you are spending too much. If your ‘wants’ section is the problem area for you, prioritize what you’re currently spending and see what pushes this. You may be falling victim to small automatic purchases like subscriptions or Starbucks runs that add up quickly.
Anything that is low on your prioritized list should get cut in order to keep doing what is highest on the list. For example, maybe pilates class is high on your list, but ordering take-out or getting your nails done is lower. It’s time to cut manicures and late night pizza so you’re able to keep going to your pilates class guilt free. Prioritizing is all about finding this balance.
Step four: set savings goals.
Source: Janni Deler
Not all savings goals are created equal, meaning some of the goals will be part of the 20% savings bucket and some of the goals will be part of the 30% wants bucket. All goals related to retirement, debt repayment (above your minimum payment), an emergency fund, or a house down payment should be included in the 20% savings bucket. Goals related to travel or saving for a big purchase, like a new computer, should be included as monthly expenses in your 30% ‘wants’ bucket.
You may find that the monthly amounts you set for these savings goals may be a little too aggressive once you examine your budget. That’s OK! Readjust as necessary. It might take a few more months to save up for that vacation, but realizing that now will put you on a good path to reach that goal.
Step five: automate everything.
Source: NY Mag
Now it’s time to make your prioritized plan as easy to execute as possible. Set up separate savings accounts for each of your goals. So if you’re saving for retirement, a new car, and a vacation, you should have a separate account for each.
Each time you get paid, transfer the amount you want to save immediately into each account. If you can, set up automatic withdrawals so you don’t even have to think about it. You won’t see the money in your checking account so you won’t have the opportunity to spend it. Out of sight, out of mind. Better yet, keep your savings at a different bank than your main checking account. It will help remove the temptation to transfer money from your savings back into your checking account for impulse purchases.
Once you have this plan set up, you’re well on your way to reaching your goals.