A detailed budget is the best way to ensure you are meeting your goals, especially when working with thin margins, either due to a low income to necessities ratio, or because you are aggressively saving.
We use a zero-based detailed budget. Meaning, we assign all of our income at the beginning of the month to specific categories. Any increases to a category must be offset by reducing another category or additional income. This post will show you the basics of setting up any budget, and how we go about setting ours. The reasons to budget are in this post.
Before any of the money and numbers work, you need to know what your priorities are. If you are married, this means setting the priorities with your spouse. Em and I have yearly and monthly goals and create the budget together. This doesn’t mean that we need to sit down at the same time and go through it, although we do sometimes (add wine and this counts as a date as long as it happens after the kids are in bed). It just means that we agree to what we will be spending money on that month.
Most times I quickly enter the amount we have coming in, our fixed expenses and savings transfers, and some typical spending for each category. This leaves us with a bit to work with for specific actions that month. Then we adjust categories depending on what is happening that month. Since we have several years’ worth of our actual spending, we can use the previous month or year as a starting point for the current month.
For example, if we know that there is a birthday party that month, we add a little to the gift category. If we want to fix or update something on the house, we add the estimated cost to the house category.
Determine how much income you will receive that month. If you are salaried, this will be easy. If you have a variable income based on sales or booked business, this step moves to the end and becomes another goal for the month.
Determine Monthly Required Payments
Existing contracts (mortgage, rent, student loans, and last month’s utilities) are already set and must be accounted for first. You can always try to renegotiate the contract of course, but for setting up a first budget, they need to be included. Go through your bank statements from the last month and determine the appropriate amount.
Determine Periodic Payments
Create a personal escrow account as described in this post. It’s money you are effectively spending anyway, so just create the account.
Determine Spending for All Other Categories
Look at bank statements for the last month and determine what you spend in each category. Realistically estimate what will happen in the current month that will require money. Adjust categories as needed. You can be very detailed, or use broad categories, but be consistent.
Do Some Math
Enter the income and expenses into a spreadsheet, a fancy program, an app, or write it on a piece of paper. Subtract the expenses from the income.
How Much Is left?
Is it a positive number? Does the amount left support your priorities? If not, then you need to really take a look at the payments that you have already committed to. When the income comes in, you should set aside money to your top priorities first. This is likely savings or debt repayment. When coming up with the budget though, the previous steps are necessary to see if it is even possible to meet your goals.
If your paycheck nets $3,000 a month and have $2,000 in fixed payments, you won’t be able to put $1,000 towards a goal since it would also be nice to eat and turn on lights from time to time.
Adjust For Priorities
Cancel monthly/periodic payments that you don’t need or really desire. This is the quickest way to start to get on the right side of the budget. The other part of the equation is to add income. Easier said (written) than done, but there are only three options. It’s just math.
1) Give up on your goals, which is not really an option
2) Cut the waste
3) Go out and get someone something they need or want so they give you money
Once you have been doing this for a while and know how much will be spent each month, you can adjust categories depending on the month.
There are tons of ways to track the spending throughout the month and hundreds of different tools. Just search online for budgeting tools or spreadsheets. We use a spreadsheet that is not fit for public consumption, but does just what I want it to do.
There are also automated services like Mint, YNAB, and Mvelopes. Your bank might even have an online budgeting tool. I’m not recommending any particular tool, since I’ve only ever used Mint and it didn’t do all that I wanted it to do or correctly sync with our checking account. I’m overly particular though.
Track and adjust as you go along. If a car repair comes up, you can adjust your budget and take from another category, take it from your personal escrow account, or an emergency fund. Repay yourself the next month. We prefer to take from our personal escrow or emergency (depending on the size) and then refill the personal escrow or emergency fund the next month. This allows us to maintain our priorities that we have already set for the month. The next month, repaying ourselves is one of the priorities.
That’s it. Set priorities. Subtract your expenses from your income. Evaluate. Track. Repeat.