Love it or hate it, if you want to be financially successful, you need to budget your money. Getting your finances in order and building wealth takes planning, and your budget can help you do just that.
For many people, budgeting is just not any fun. It means limits or lack of or even punishment. I personally prefer the word "plan" to the word "budget" because it doesn't sound so constraining. But having a budget in some form is really important for your financial success. Ever heard the saying "failing to plan is like planning to fail”? If you don't plan you can't win.
The process of budgeting doesn't have to be difficult or complicated. You just need to create a system that works for you. In this blog post, you’ll learn all about budgeting and how you can win at it!
"If the wealthiest people in the world plan their finances, what's your excuse?"
Part 1: Budgeting Methods
There are some pretty solid reasons why you should be budgeting. It helps keep your spending in check, tracks your expenses and teaches you to control your money — and not have it control you! It’s the first step in helping you build wealth.
Having a budget allows you to enjoy life without the stress of how to pay for it later. Because “later” rarely comes. Paying for things in the present instead of the future allows you to truly enjoy yourself and live the life you want. I was able to save $100,000 in just 3 years by making a budget and sticking to it. Imagine what you can accomplish with a little planning.
People will often allow their emotions to cloud their judgment when it comes to planning their finances, but if you look at your money objectively for what it really is, a tool, then it's easier to make your plans! Once you decide what your priorities are, your budget should reflect them.
So how do you make a budget? There are a variety of ways in which you can budget. The method you choose is entirely up to you; the most important part is picking a style that works for your life. Trust me, even if you currently hate budgeting, there's a style out there for you!
Finding what works for you is the most important step because not everyone’s brains process information the same. You may like one of these methods or a hybrid of a couple of them.
The most important thing is to just do it. If one doesn’t work, try a different one.
"Your success with budgeting can be greatly improved by the budgeting method or style you select."
Below are four different budget methods that you can try.
Budget Method #1: Budgeting with the envelope or cash system
This cash-based budgeting system is simple. Subtract your expenses from your income and then put the amount of each expense into its own envelope. These envelopes are your categories.
Using cash may also make it easier to stick to your budget. Studies have shown that you spend on average 15-20% less when using cash. But you don’t have to use cash for all of your expenses when using the envelope system. You can keep the money for your big bills in virtual envelopes that you track through a budget worksheet or an app. Then, put actual cash for your smaller expenses or day-to-day transactions in actual physical envelopes.
The cash envelope system works best for categories that you commonly overspend in. So, things like clothes, food, eating out, fun, kids’ expenses, etc. Do not make it overly complicated or it will be hard to follow and stick to. Learn more about getting started with the cash envelope method.
Budget Method #2: Budgeting using percentage breakouts
Another way to look at your budget is to break down your household income into percentages, then plan out your spending and savings accordingly. The most common percentage breakdown is 50/30/20. This means that:
- No more than 50% of your income goes toward your needs and essentials (things like housing, transportation, food, etc.)
- No more than 30% of your income goes on wants and non-essentials (travel, getting your hair done, shopping, etc.)
- At least 20% of your income goes toward savings and debt repayment.
So, for example, you can select a 35/30/35 breakout, a 35/35/40 breakout or even a 25/25/50 breakout. The goal is setting percentage breakouts that make sense for you.
Just be mindful of how much of your income you’re spending on housing alone. A good rule of thumb is to keep your housing costs less than 30% of your income. Otherwise, you won't be able to put as much money towards your other goals, like saving and investing or becoming debt free.
It's helpful to maintain a budget worksheet for this method, too. Using a budget template or worksheet (get ours above!) is helpful to see where your money is going. It can help you create your budget easier from month to month.
Budget Method #3: The reverse budgeting approach
As the name implies, reverse budgeting is the opposite of most budget methods where you subtract your expenses from your monthly income.
In this method of budgeting, you focus on a single goal, such as paying off a certain amount of debt or saving a certain amount of money each month, in addition to paying your bills. Then, as long as you meet your monthly goal and pay your bills without exceeding your income, you can do what you like with the money you have left over.
Budget Method #4: Zero-based budgeting
Another form of a budget is zero-based budgeting. This is the method that Dave Ramsey advocates using. Basically, a zero-based budget is planning for every single dollar in your budget. So, instead of having $X amount leftover at the end of the month, you have $0 left (on paper anyway). When you are planning out your budget, you account for everything you can think of in the budget so that every dollar has a job.
You won’t really have zero dollars at the end of the month because you have accounted for different savings funds in the budget. This method is effective because it makes you be intentional with every dollar so that what is “left” doesn’t disappear every month.
Budgeting using a spreadsheet vs. an app
Spreadsheets or apps? Which should you use? The answer is, use what works best for you and makes it easy for you to keep up with your budget.
Some people love spreadsheets — they don't have to worry about bank security or what's happening with their personal information. And using a budget worksheet allows them to get really close to their numbers.
Love budgeting with a spreadsheet but are worried about being able to access it when you're not home? Google Drive is free and makes it easy for you to upload your budget worksheet for easy access on your mobile devices.
Apps, on the other hand, can make it really simple to budget, especially if you can connect your bank accounts to them so your transactions can be tracked automatically.
These days, most apps have extreme levels of security. But sometimes there can be delays in transaction updates. And apps are not always as intuitive when it comes to categorizing transactions, which will require you to spend some time setting things up.
That aside, for the most part, all you'll really need to do once things are set up is check in frequently. This will help you ensure your transactions are tracked the right way and set up alerts to keep you on top of your budget.
Whether you choose a budget worksheet or an app, you can set up your budget to be reflective of any of the above budgeting methods.
Part 2: Budget Categories
In order to successfully plan, you need to understand where your money goes each month. Only then can you create a plan to help you control your spending. You can break your monthly budget out into four categories:
Budget category #1: Money for your future self, emergency fund, and debt
Ever heard the words "pay yourself first"? This should be a consistent part of any plan you make.
Before you pay any bills or do any shopping, a portion of your earnings should be diverted into your retirement account for your future self and your emergency savings accounts for a rainy day. No ifs, no maybe's. Just do it.
Time goes by so quickly and planning for the future version of you will ensure that you can enjoy your retirement and not have to depend on the government or your children to take care of you.
Having an emergency fund will also provide you with a buffer in the event of a rainy day so that you can rely on your emergency savings instead of a credit card or other debt.
You can also include money to pay off any debt you have in this category or add it as a sub-category (e.g. your credit card debt, car loan, student loans, etc.) because it is essential that you pay off your debt as soon as you can so you can focus on building wealth.
Budget category #2: Your essentials and needs
Next would be your essentials and needs — the things you need to live your life. This does not include money for shopping or getting your nails done — those are not essentials.
This is for things like your housing costs (mortgage or rent), transportation and food.
Budget category #3: Your other money and life goals
This would include money you are saving outside of your retirement account, like your midterm savings and investments for the next 10 to 15 years, business savings, saving for a home purchase, college savings and so on.
I recommend creating separate accounts to save for each of your different goals. I have automated deposits set up for different goals, and it's helped me stay on top of my savings!
Budget category #4: Everything else
This is where your splurge money would fall under. The money you would spend shopping or save for a wish list item, eating out, traveling, entertaining yourself and whatever else it is that you would typically do to enjoy your life.
Budget Category Percentages
For each of the categories mentioned above, below is a general guideline of how your money can be allocated:
- Money for your future self, your emergency fund, and debt repayment: at least 20%
- Your essentials and needs (e.g. shelter, food, transportation, insurance): no more than 50%
- Your other money and life goals: 15%
- Everything else: 15%
Keep in mind that you can change all of these according to your goals. Remember, your budget is your blueprint for managing your money so you can build wealth.
What if you are focused on paying off debt?
If you have debt, you should plan to pay as much as you can towards your debt each month. This would mean lowering the amounts you contribute to the different budget categories/buckets above and reallocating the difference to paying off your debt as quickly as you can.
If you can allocate your finances into these buckets and percentages and then track your spending against the buckets frequently (once a week at the minimum — I personally like tracking my spending daily), you'll be well on your way to budgeting successfully.
Like with everything money-related, sticking to your plan requires discipline. If you struggle with your plan initially, having an accountability partner is a great idea! Reach out to a friend for support. We all need a cheerleader sometimes.
Part 3: How to Stick to a Budget
Budgeting doesn’t have to be scary and overwhelming. Once you get the hang of doing it, it gets easier and easier every month.
Following these simple steps will help you streamline the process and actually stick to your budget.
1. Call it something fun
Call your budget something that you like and that motivates you to keep up with it. Who says it has to be called a budget? Give it a nickname and a personality.
The word budget is boring anyway!
2. Create a budget in advance of each month
Creating a budget in advance of each month means you kick off the next month with a plan and you aren't scrambling trying to figure out what to do.
Plan to create your budget a few days before the month starts. This way you have time to lay things out and figure out what your finances will look like in the upcoming month.
Once you get in the habit of creating a budget, it will get easier and easier every month. You will even be able to plan out your budget for several months at a time.
3. Don't assume every month will be the same
Every single month should be planned for separately. No two months will be exactly the same financially, and so you want to prepare in advance for things like one-time bills or expenses, travel plans, events, etc.
This is why it's really important to create a budget specific to each new month.
Similarly, budgeting for life-changing events also requires some extra attention. Whether it’s a new baby or you’ve paid off debt, sometimes you need to take a hard look at your monthly budget and accommodate those changes as needed.
4. Base your budget on your projected income for that month
If you get paid once a month, twice a month or every two weeks, base your budget on that projected income so you know exactly how much you have to budget. Keep in mind that if you get paid every two weeks there will be a month where you get three paychecks. So plan accordingly.
On the other hand, if you’re budgeting with a fluctuating income, you may have some challenges getting it right at first. You’ll have to be even more diligent with tracking your spending and estimating your income, but it can be done!
5. Pay your expenses before splurging
This means paying for your essentials, debt, and goals (savings and investments) first before you do any splurging or miscellaneous spending.
The last thing you want is to find that you have overspent on what isn't necessary and don't have a way to pay your bills.
However, that being said, it's ok to splurge. Just make sure you are building your splurges into your budget so you can enjoy them guilt-free.
6. Track your transactions
Tracking your transactions allows you to make sure you stay within your budget and keeps you conscious of your spending habits. You can track your transactions in a spending journal, spreadsheet or with an automated app or online tool.
If you are just getting the hang of budgeting, it's a good idea to track your transactions and check in with your budget every day. It will only take a few minutes and it will you stay on top of your finances. Plus, you'll be building up the essential habit of checking in on your finances frequently.
Budgets don’t have to be complicated or a chore. Whatever method you choose, how you budget comes down to your personal preferences.
Like any art, budgeting takes time to master. It can take several months to really figure out what is and isn’t working. If you slip, brush yourself off and get back on track. Take the lessons you learned about budgeting from the previous month and apply it to the next.
The most important thing is to start and just keep going even when it gets tough.