A budget can help you to plan for expenses and know where your money is going. It’s a fantastic tool — as long as it doesn’t get too complicated.
Karen recently sent this question to me:
I’m wondering what steps you took to get your family on a budget. How do you know how much should be spent on each “department” such as cell phone, electricity, car payment, insurance etc. How do you have it all categorized? I’m just feeling so overwhelmed with getting the budget set up, but I know if I will stick to it, we will benefit.
When I make a budget, I focus on two kinds of amounts:
Planned amounts- what you think your income and expenses will be.
Actual amounts- what the income and expenses actually were.
If you’ll notice, I didn’t mention “ideal amounts.” A budget is a planning tool, and it is most effective when it is realistic. It’s not the place for what you wish the numbers were. Once the budget is set up and you can see where your money is really going, there will be plenty of opportunities to change your spending.
If a budget is too complicated, you won’t use it, so let’s just go through the steps to create a simple, workable budget. You can use a piece of paper, a spreadsheet, or budgeting software.
Most people find it easiest to look at monthly amounts since so many bills are paid once a month.
Start with your income.
Add up your expected monthly income, plus any side income. If you are paid at odd intervals, just get as close as you can. You might want to take your annual income and divide by 12. If your income is uncertain, then choose an amount that is realistic, but conservatively low. You can always adjust it later.
(I am using made-up numbers for these examples. They’ll vary from person to person because of differing priorities and situations. There’s no single answer for what an amount “should” be.)
20080930 - income
In the example above, I subtracted taxes, insurance, and 401(k) contributions — all the things that come out of your paycheck before you get it. What’s left is the Monthly Net Income to cover all of your expenses.
Next, list your expenses.
It’s tempting to set up a lot of categories, but don’t go overboard. If you’re doing it on paper, just use general categories. If you’re using software, you could create more as you need them.
I tend to use these general categories:
Debt payoff – Paying off any kinds of debt should be a high priority. It will free up your income for future opportunities when you are not burdened with the monthly payments and interest.
Home – Rent or mortgage payment, insurance, property taxes. You could even include home repairs and furnishings in this budget category.
Utilities – Monthly bills for water, electricity, gas, phone, internet, cable.
Car – Car payments, gas, insurance, repairs, registration, inspection, tires.
Healthcare – Doctor visits and prescriptions.
Food – Groceries and dining out. I separate the two because groceries are essential, but eating out is an indulgence.
Personal – Clothing, hair cuts, wants, entertainment.
One-time or big expenses – I set aside money each month for any big-ticket items before buying them.
The amounts that you think you will pay go in the Planned Amounts column. During the month as you go through your receipts, you will update your budget with the Actual Amounts in the second column. The main goal is for the expenses to be less than the income.
If you want to be more specific in your categories, your budget might look like this (again, these numbers are just made up for example):
20080930 - budget
Frequently asked questions about expense amounts:
What if the amounts change each month? For bills that vary by a couple of dollars every month, like the water bill, I plan by rounding up a few dollars from the average amount. The electric bill is always higher in the summer, so you could budget for the higher amount, or request average billing. You can always adjust your budget for seasonal changes.
Where do I put household items like toilet paper? Wherever it makes the most sense to you. You could include them with the groceries or have a household supplies category.
My grocery bills vary from one month to the next since I like to stock up. You can still use an average amount. In the following months you should be able to spend less on food so it will balance out.
How do I know how much to plan for single or big expenses? You’re mostly limited by how much available income you still have after other expenses. Think ahead how much you plan to spend at Christmas, for home upgrades, or for a new timing belt on your car in the next year.
What about bills that I pay twice a year? You can set the money aside in advance. Consider having a monthly portion automatically drafted into one or more savings accounts. You want to have the money ready before you need it.
What if the expenses are more than the income? It’s time to trim, drastically if needed. A serious look at needs versus wants is hard but necessary.
How to use your budget
Each week, enter your actual expenses into the second column. Hopefully they won’t be too different from your planned amounts, but you can tweak your budget as needed. If you need to decrease one amount to add to another amount, do it.
It can be very eye-opening to find out how much you are spending on eating out, clothing, or other things. As you get a sense of where your money is going, then you can decide you have areas you want to cut back on.
One final suggestion: After paying off debt, any money left over should go into savings and investments instead of thinking of it as “free spending money.” Why? Putting extra money away during months of excess will carry you through the lean times. Unless you want to have a roller coaster of highs and lows, feast or famine, setting money aside when there is extra will give you a sense of stability and peace. Besides, fun and entertainment have already been included in the list. You’re not having to go without.
Karen, I hope that answered your question thoroughly. Readers, what other ideas would you suggest?
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Original article and pictures take http://smallnotebook.org/2008/09/30/your-family-budget-step-by-step/ site