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3 Steps to Make a Budget

Jul 09, 2019 3 min read

Key Takeaways

  • Keep track of your spending – break your purchases down into broad categories.
  • Separate the essentials, like rent and insurance, from the non-essentials.
  • Consider automatically transferring money to your savings account.

 

You may have heard “You need to make a budget” so many times throughout your life that you equate it with “Eat your vegetables.” However, formulating a spending plan doesn’t have to be as dull as a plate of uncooked kale.

 Transcript

Just think of it as a potential ticket to “financial freedom”: Once you’ve got a plan for your money, you won’t feel guilty about buying that new pair of shoes or enjoying a dinner out with friends; those expenses will just fit into your overall strategy.

Getting a handle on your money will also help enable you to set funds aside for your savings goals —everything from retirement to a new car to that vacation you’ve always hoped to take. Here’s how to jump in.

 

 

Start tracking your cash

You can’t create a budget if you don’t know where your hard-earned income is actually going. It can be too easy to watch your money disappear each month without knowing exactly what you spent it on.

For the next month, keep track of that spending

Consider using broad categories for your purchases — rather than getting bogged down in subcategories —to keep this exercise simple. For instance, log expenses as Auto & Transport rather than separating into subcategories such as Gas & Fuel, Parking and Public Transportation. And perhaps Food & Dining can cover all your groceries, takeout and restaurant meals instead of you having to sort them separately.

If you often use cash, try to save your receipts or keep notes on your smartphone as you spend. You don’t need to record every latte or pack of gum, but understanding if you’re going through $200 in cash every week is important to your overall budgeting approach.

 

Identify needs and wants

Once you know where your money is going, it’s time to separate the absolute essentials from the rest.

On the essentials side, there’s rent or mortgage payments, utilities, insurance, car payments and food, among other things.

In the next bucket there are lifestyle purchases that aren’t strictly necessary, such as gym memberships, cable packages and travel. If money’s tight, this is the spending that can be easiest to trim.

Then there’s the bucket for long-term financial goals, from making extra debt payments to contributing to your retirement funds and savings accounts, including emergency funds.

Make a list of the things you’d most like to save toward, such as the emergency fund, a down payment on a house, a new car or that much-needed vacation. Rank your goals in order of importance, then decide how much you should allocate to each one.

If you have competing goals and limited dollars, you must decide what you want to save for first, or whether you want to split your money between buckets, which means it may take longer to save for each.

If you need a little more numerical guidance, a well-known rule  Opens in new window for household budgeting puts the essentials at no more than 50% of take-home pay, lifestyle expenses at no more than 30% and retirement savings/extra debt payoff of at least 20%.

These percentages can, of course, be adjusted for individual circumstances, and you might want to consider putting more toward long-term saving and less toward the lifestyle bucket, but they provide a useful baseline to consider during the budgeting process.

 

Automate it

Next, consider making your budgeting habit automatic by having money transferred on each payday into savings or investment accounts for every purpose. (Many bank accounts will allow you to create separate savings buckets.)

Much as it is with automatic 401(k) contributions, if the money disappears before you see it, you may be less tempted to spend it, and you’ll more easily have the potential of meeting your savings goals every month.

 

What you can do next

A sound budget starts with separating the essential expenses and savings contributions, then trimming a little (or a lot) off the stuff you can live without.

 

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