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.
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.