t actually feels weird that I’ve waited this long to address the topic head on. I’ve talked about the importance of budgeting, but I haven’t written a post (for my blog, anyway), about how to tackle a budget. Let’s do it.
What is a budget?
When some people talk about being on a budget, what they really mean is that they are trying to be conservative with their spending. That’s great, and that can be part of it, but using a budget is more than that. It’s taking an honest inventory of your income and expenses and using that information to realistically plan how you will allocate your resources in the coming month (or whatever time period you’re using).
But it doesn’t stop there. Making that plan is important, but you also need to check yourself periodically to make sure you’re adhering to the plan. And if you’re not, you need make adjustments. That’s what I mean when I talk about budgeting. And let me be clear: I consider this to be the most important financial skill a person can master.
How do I budget?
For years, I knew how much money my monthly fixed expenses would cost me. I also knew that I wanted to save a certain amount every month. I set those things as automatic bill payments and all was good. My “budget” was working. Until It wasn’t.
What happened? I eventually found myself spending more than I meant to. This meant I’d have to dip into savings, or worse, occasionally rely on credit. That’s just not sustainable. I had to find out where that money was going and address it, fast.
Step 1: Review your statements
In order to make a budget that will work, you need to get real about how you’ve been spending your money. To do this, you’re gonna log into your online banking and download your statements from the past few months – chequing accounts and credit cards. If you’re a cash in hand kind of person, this is going to be more of a challenge, and might involve some estimation.
Step 2: Make a list of expenses
Based on the info gleaned from those statements, you’re now going to make a list of monthly expenses. Start with your fixed expenses – these are bills that you know you have to pay every month, and are always the same amount. So you have your mortgage or rent, internet, cell phone, cable (if you have it; maybe you shouldn’t), insurances, car payment (if you have one), and any other loan payments. Also include regular contributions to savings plans you might have in place.
Then you have to consider your variable expenses. These are things you know you will spend money on, but the amount you spend varies month to month. Things like electricity, gas (or other transit costs), groceries, eating out, entertainment, clothing and personal items, household items, pet-related expenses, gifts, the list goes on. Your statements will give you an idea of how much you have historically spent on each category. Try to estimate how much you will have to spend on each in the coming month.
Step 3: Tally your expenses
Now that you’ve figured out your expenses, tally them up. This is the base of your budget.
Step 4: Estimate your income
If you have a regular salaried job, this is easy. If you’re paid bi-weekly, then every month you will have two pay cheques (occasionally three). If you’re self-employed, or work variable hours, you may not know exactly what your income will be. Rely on what you know you have in pipeline and what you usually earn, and make an estimate. If you’re not sure, stay on the conservative side. It’s better to have money left over that to not have enough.
Step 5: Income minus expenses
Moment of truth, people! Subtract your projected expenses from your projected income. If you have money left over, excellent! Allocate that money to a new category: savings! This style of budget is called a zero-sum budget because it assigns a job to every dollar, resulting in an income minus expenses equals zero scenario. Ok, savings is not technically an expense. But treating it like one is a great way to ensure it’s always built into your budget.
If your projected income just covers you projected expenses not including any savings, then you might consider trying to adjust one of your variable expenses so that you’re able to budget in some modest savings.
If income minus expenses equals a negative number, then you don’t earn enough to cover your expenses. You’re running a deficit. Most likely, you’re accumulating debt . This isn’t sustainable, and if you’re in this situation, you need to make a change. You basically have two options: Earn more, or spend less.
I recommend taking a good hard look at your variable expenses and seeing if there are ways you can save money. Maybe you can’t afford to go out as much as you have been, and can plan to spend half the amount next month. Maybe you can be a smarter grocery shopper and cut down your grocery bill. There might also be fixed expenses you can eliminate (like cable TV).
You need to adjust your budget so that projected income minus projected expenses equals zero.
Step 6: Track your progress
You’ve put in the work and designed a budget that you think (maybe hope) you can stick to. Good job, that took some effort. But it’s not over yet.
Now you have to track your spending and make sure you’re adhering to your plan. You know those categories you listed when you were figuring out your fixed and variable expenses? Whenever you spend money, you need to track the amount, and what category it falls into. For example, if you go out for lunch today and spend $22, you log that under eating out. If you budgeted yourself $50 for eating out this month, then you have $28 left to work with.
You can do this a number of ways. A simple pen and paper gets the job done if that’s your style. You can use a spread sheet in excel, or you can use an app. When I first got serious about budgeting, I used an excel spreadsheet that the smart and frugal folks over at Club Thrifty shared with their readers. It works great, and you can connect with them to get one.
I’ve recently started using the You Need a Budget (YNAB) app to track my spending, and it’s so good that I’m even willing to pay for it. That’s a big deal, because the very idea of spending money to help me budget seems foolish.
YNAB is a really simple app (desk top and mobile versions available) that allows you to assign every incoming dollar to an expense category, which is perfect for a zero-sum budget. You can give the app permission to connect to your bank and credit card companies, and your transactions are automatically imported in, which is super convenient. You can also opt to enter the transactions manually if you’re not comfortable with sharing your info.
I love YNAB because if I over-spend on a category, it notifies me and tells me I have to take that amount from another category to keep my budget balanced.
This tool works pretty well for me. As cheap as I am, I’m prepared to pay $65 CAD a year to have it. They do have a free 34-day trial, so I recommend trying that out to see if it works for you. If it’s not your thing, then simply cancel before the free trial ends, and you won’t be charged.
Step 7: Re-assess
Once you get into budgeting, you’re going to develop a sense of financial mindfulness that you didn’t have before. In my opinion, nothing gives you more control over your behaviour than awareness. Once you become aware of how much you spend on different things, I bet you’ll end up wanting to make some changes. Maybe you’ll find you’re not ok with the $140 you spent on eating out last month. That’s good – when you’re planning your next budget, adjust your allocation to that category and assign some of that money somewhere else. Remember, financial freedom is a work in progress.
I’m obsessed with the control budgeting gives me. Some people think it’s too much work, but once you get through the initial steps of developing your budget, the upkeep doesn’t take long at all. Your income is the most powerful tool you have at your disposal. I truly believe that you owe it to yourself to manage it like a boss.
Do you use a budget? If so, do you use a spreadsheet or an app, or do you kick it old school?