Are you looking to take control of your finances? Want to make it easier to save money and reach your financial goals?
A budget is one of the best ways to achieve all this and more! Your budget will serve as an important pillar for your overall financial success. Budgeting is a key tool for your financial stability and sets the foundation for your path to financial freedom. A budget is a monthly financial plan that will keep you organized and focused on personal financial goals. Just like many things in life, the hardest part is getting started. In this page, we will break down the budgeting process step by step.
The purpose of this exercise is to help you plan, organize, track and improve your overall financial position. It is never too early to get started on making your own budget. Whether it’s paying off student loans, purchasing a car or saving up for your own home, budgeting is the key to your success. These easy steps will help you to understand your spending habits and save for whatever it is that lies ahead in your own life. You can sleep easy at night knowing your hard earned money is well budgeted… Keep reading for simple steps that will help you live life to the fullest!
Table of Contents
5 Steps to Budget:
STEP 1: Determine your Income
The first step in creating your budget is determining your monthly income, or your “take home” pay from any of your income sources (such as your full time job, freelance work, investment income, etc.) When creating a budget, it is important to use what’s known as your “take home pay” because this accurately determines your starting point before any additional monthly spending. Take home pay accounts for the difference between your gross pay and what you actually receive after expenses are taken out, such as taxes, health insurance and other payroll fees.
If your sole source of income is a salary or paychecks from an employer, it is likely that your employer automatically makes these deductions each payroll. In this case, it is simply your net paycheck(s) for the month. If you have additional methods or sources of income, be sure to account for those as well.
EXAMPLE: To better understand the budgeting process, let’s use an example: Susie just graduated from college and started her dream job as an elementary school teacher in a local school. She has a gross salary of $42,000 per year, or $3,500 per month. Each month, she receives $2,450 in her bank account from her paychecks. This amount of $2,450 is her net or “take home” income. This will be Susie’s monthly income that she uses for her budget.
STEP 2: Track your Spending
After you’ve determined how much is coming in each month (inflows), your next step is to determine where it’s going (outflows). By calculating and tracking your expenses, you can easily see what you are spending the most money on and where there are opportunities to save.
There are two categories that we will focus on for spending: fixed expenses and variable expenses. Fixed expenses are reoccurring regular monthly payments. Examples of this include rent or mortgage, utilities and car payments. Variable expenses are things that you spend money on that may change month to month. This includes groceries, going out to eat, gas and shopping.
Once you’ve determined your fixed and variable spending, record and track your monthly spending with your tool of choice. You can use a pen and paper, notes app in your phone or an excel document. Choice a format that works best for you and you will keep up with!
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EXAMPLE: Susie tracked her expenses for the last month and has the following expenses. She noticed that she spends about 12% of her monthly income on dining out. Keep this in mind for step 4 when Susie will make her budget!
STEP 3: Set your Goals
Reaching your personal financial goals is one of the main reasons for making a budget. In this next step, you will make a list of short-term and long-term goals that you would like to achieve. Short-term goals should be in the 1-3 year range while long-term focuses on your goals that span more than 3 years. When setting goals, it is important to think about future life events. Buying a house or paying off loans might seem overwhelming when thinking about how to pay for them. However, if you start early and properly budget in advance, you will set yourself up for success.
Budget Tip #1
Look at your credit card bills and bank statements to determine what makes up the majority of your variable expenses. For example, are you spending a large amount of money on restaurants and take out? Are you still paying for streaming services or gym memberships that you no longer use? This could be an opportunity to save by making lifestyle alterations. Minor changes over time can go a long way!
EXAMPLE: Susie would like to buy a house in three years. She would also like to save money to retire for when she is older.
STEP 4: Make a Plan… Time to Budget!
This is a key step and where all the work you’ve put in so far comes together… time to plan! You will use the information you’ve gathered in steps 1-3 to see what you are currently spending money on and where you would like to be. For most people, it is more realistic to change their monthly expenses vs. their income. Therefore, use this time to examine where your expenses are now and plan for where you would like to have them in the future. Remember to be realistic and evaluate what are some your spending needs compared to wants.
Budget Tip #2
Use the 50/30/20 Rule for your budget. 50% of your income should go to needs such as rent, car payments, utilities and groceries. 30% should go to wants such as shopping, vacations and entertainment. 20% should go towards savings or paying off debt. However, keep in mind your goals. For example, if you are looking to save money to purchase a home, you may have a higher percentage of savings vs. wants. However, it is a good rule of thumb to try to keep your needs to 50% or under.
EXAMPLE: Susie created her budget to the left to help achieve her goals. Her budget shows how she plans to spend her income each month. Susie decreased her past amount spent on dining out and added money to her allotted grocery budget. She intends to spend less on dining out with her new budget.
Susie kept her various financial and life goals in mind – using the budget plan she created, Susie will have almost $15,000 saved up for a down payment to purchase a home in just three years. She is also now allocating money to a retirement investment account each month. This will help Susie achieve her short and long-term objectives while still having time for dining out and other activities.
STEP 5: Monitor and Adjust
Once you create a budget, it is critical to consistently monitor and adjust. A good way to do so is setting aside time once a month to review your budget and then compare this plan to what you actually ended up spending. Consistency is key. Taking inventory of your inflows and outflows each month will help you understand where your money is going and how to prepare for the future.
It is important to be realistic and adjust for any changes you may notice. If you find that your budget has helped cut out unneeded spending on wants, this is a great takeaway! Use this feedback on your own spending habits to adjust your budget and keep pursuing your goals. When evaluating your monthly budget, keep in mind the following:
- Annual expenses: Membership dues? Annual medical fees? Be sure to add those in the plan and adjust other areas of spending as necessary.
- Celebrations or upcoming events: Are you attending several weddings this month or headed to a birthday party? Don’t forget to account for these gifts!
- Seasonal spending: Do you spend less during certain months and more during others? Make sure you take that into consideration when planning out your monthly spending and saving. Keep a good perspective and think about the year- not just the month.
- Holidays: Gifts, decorations and all the holiday cheer can certainly add up. It’s good to keep these events in mind and plan in advance.
Time to budget with confidence! This is just the beginning of your financial freedom journey. Be sure to keep in mind your goals and remember that knowledge is power. The more you can plan for your personal finances, the better equipped you will be to handle whatever life may bring. For more tips on this topic, be sure to visit the following resources:
