Creating Your First Budget – Part 3 (Plan Ahead)

Note: This is the third of a multi-post series that goes into detail on how to set up your first budget.  Read Part 1 and Part 2 before this post.

By now, you should have categories and spending associated with each of them.  Now we can move onto the guts of what a budget actually provides. 

Pick a timeframe to budget.  It can match your pay cycle (so you have one paycheck per budget period), or it can match your monthly expenses.  My recommendation is to budget once per month, because it aligns with your expenses much better.  If you don’t have enough money in your emergency fund to cover a full month’s expenses, start with your pay cycle, and save in a “buffer” category until you get enough to cover a full month’s expenses at the beginning of the month.

Once you pick a timeframe, take your available income for that time period, and assign every penny of it to a category.  If you have money left over, put it toward savings or an emergency fund, or something else.  If you don’t have enough to cover your expenses, you’ll have to cut back in some areas (or eliminate some of your expenses altogether).  Make sure you are spending less than you earn, and give every dollar a job. 

Make sure you take semi-annual (such as car insurance) and annual (such as taxes, life insurance, etc.) into account for your budget as well.  For annual expenses (as an example), just divide by 12 and use that for your monthly budget.  Let the amount build up over the 12 months, and you’ll easily have enough to cover your expenses that don’t occur on a monthly basis.

How should you handle overspending?  Again, using software here can help you out.  YNAB takes all your overages and simply subtracts that from your total available for the next month.  This takes the sting out a little from overspending, which is a good thing.  If you overspend by $50 on groceries one month, you shouldn’t have $50 less to spend on groceries the next month.  Instead, you have $50 less to spend across all your categories.  This is my recommended approach as well.

There is no such thing as a typical month.  Budgeted amounts change from month to month.  Don’t budget your average expenses every month, and expect a budget to work.  That’s one of the common mistakes when budgeting.  Each month is different.  You can start with an average, then look at what you have going on in the upcoming budgeting period.  If you know you’ll be driving more, put more money in gas, and take some out of other categories. 

At the beginning of every budgeting period, you should sit down with anyone else sharing your budget (i.e., your spouse) and figure out where you should spend your money for the month.  This increases your communication, and builds a stronger, more trustworthy relationship.  It also helps to figure out what you plan on doing for the month, as one person might think of something the other missed. 

Make sure you save for larger expenses too.  Planning on getting a new car in a couple of years?  Buying a house a few years down the road?  Start saving now by putting a little bit in a category dedicated toward that every budgeting period.  This makes saving a LOT easier.  It gives you a clear goal on where your money will be spent, which in turn makes you want to save more to accomplish the goal.

Now you know the basics about how to budget your money.  There should be nothing holding you back except the time involved in actually doing it.  Start today, and you’ll feel a lot more comfortable about your financial state down the road.

Creating Your First Budget – Part 2 (Tracking Expenses)

Note: This is the second of a multi-post series that goes into detail on how to set up your first budget.  Read Part 1 before this post.

What do you do now that you’ve got your categories set up?  Using the method you decided back in part 1, start tracking all your expenses, and assign every dollar you spend to one of the categories you created.  If you’re using a good budgeting software (such as YNAB), it’ll allow you to assign your expenses to categories.  If you’re using a spreadsheet, just add a column next to your category column for what you’ve actually spent.

In order for budgeting to work, you have to track every last penny.  That even includes paying a quarter for a soda, a dollar for washing your car, etc.  Every last penny has to be accounted for, and assigned to a category.  Before you start budgeting your money, start seeing where you spend your money for a few months.  You’ll be surprised at where your money goes once you start tracking it all.

Once you start tracking your expenses for a few months, follow Part 3 – Planning Ahead.

Creating Your First Budget – Part 1 (Create Categories)

Note: This is the first of a multi-post series that goes into detail on how to set up your first budget.

So you’ve finally decided you want to take the plunge and create your first budget (or spending plan, if you prefer)?  Ok, so where do you start?

First, you need to determine what you will use to keep track of your budget and spending.  It could be something as simple as a spreadsheet, or a more elaborate solution like Mint.com or YNAB (my personal choice).

Next, you need to decide how you want to categorize your spending.  You can use something as simple as The Balanced Money Formula, where you just have three categories: Wants, Needs, and Savings.  You put 50% of your money toward Needs, 30% toward Wants, and 20% toward Savings.  You could go to the other end of the spectrum, where you have thousands of categories, even including one for toothpaste.  Or you could pick something anywhere in between.  I am very detail oriented, so my budget includes a lot of detailed categories.  I’ll get to my categories in a minute.

If you are going to create categories for items such as groceries, gas, housing, etc., make sure you look at more of a long term approach.  Don’t just look at how much you spend on a month-by-month basis, but look at your year-long spending.  In other words, try to think of all your expenses you pay semi-annually (car insurance) or annually (Christmas gifts, taxes, homeowners insurance, etc.).  My recommendation is to save some extra money in a general category for the first year to accommodate any irregular expenses you might have forgotten about.  Trust me, it’ll happen.

Wondering where to start with picking categories?  I’ll show you what my categories are right now.  I adjust them as time goes on, but this is what they look like right now.  Maybe it’ll help give you an idea on where to start.  Remember, you don’t have to be as detailed as I am (or you can be more detailed if you like), but this is just a starting point to make sure you don’t forget most items.

Charity
– Church
– Misc.
Clothing
– Hers
– His
Computer
– Hardware
– Software
Education
– Student Loan 1
– Student Loan 2
Food
– Groceries
– Restaurants
– J.D. Lunch (I have a special plan for this because my work has a really cheap and healthy lunch)
Gifts
– Misc. (used to accommodate birthdays, weddings, etc.)
Holiday
– Christmas Decorations
– Christmas Gifts
– Halloween
Housing
– Furnace Filters
– Furniture
– Household
– Improvements
– Lawn & Garden
– Mortgage
Medical/Health
– Dentist
– Doctor
– Medicine
– Optometrist/Contacts
Memberships
– Safety Deposit Box
– Sam’s Club
– Web Site Domain
– Web Site Hosting
Personal
– Cosmetics
– Hair Cuts
– Life Insurance
– Miscellaneous
– Toiletries
– Tools/Woodworking
– Taxes
Pets
– Food
– Grooming
– Heartgard/Frontline Plus
– Other
– Toys and Treats
– Vet
Recreation
– Entertainment
– Vacation
Savings
– Buffer (used for any over spending of other categories)
– Big Item (changes from month to month, but is basically any large item for which we are saving)
– Emergency Fund
– Roth IRA – J.D.
– Roth IRA – Megan
Transporation
– Car Insurance
– Car Payment
– Gas
– License Plate Renewals
– Repairs & Tires
– Service/Maintenance
– Drivers License Renewals
Utilities
– Satellite
– Internet
– Electricity
– Gas
– Phone
– Trash
– Water & Sewer

We don’t budget something to every one of these categories every month, but we do for most.  I know it might be overkill for most people, but I like having some smaller categories I don’t use much, just to make sure I have money in there when I need it (like furnace filters).  Some of the categories have a target amount we try to reach (like doctor, dentist, vet, emergency fund), then we just keep that money in there until we need it.

Spend some time thinking about what categories you want to use, and then I’ll cover what to do with them in Part 2 – Tracking Expenses.