For many people, budgeting is just not any fun. It means limits or lack or even punishment. But having a budget or some form of a budget is really important for your financial success. I personally prefer the word "plan" to the word "budget" because it doesn't sound so constraining.
"In order to successfully plan, you need to understand where your money goes each month."
In order to successfully plan, you need to understand where your money goes each month and then you can create a plan to help you re-adjust your spending and/or help you ensure you are within the ranges of your plan. You can break your monthly budget out into four categories and they are as follows:
Budget category #1 - Money for your future self, your emergency fund & your debt repayment
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. Also having an emergency fund 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 them off your debt as soon as you can so you can focus on building wealth.
Budget category #2 - Your essentials & 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 & life goals
This would include money you are saving outside of your retirement account. i.e. your midterm savings and investments for the next 10 - 15 years, business savings, saving for a home purchase, college savings, etc.
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.
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 & needs e.g. shelter, food, transportation, Insurance - no more than 50%
- Your other money & life goals - 15%
- Everything else - 15%
Keep in mind that regardless of the breakout you choose, you want to be careful spending more than 30% of your income on just housing alone, otherwise, you won't be able to put as much money towards your other goals e.g saving and investing, becoming debt free etc.
What about 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!