Was there a time that you felt scared, worried, or helpless about your financial situation? That is the kind of feeling you’ll get when you’re financially stressed, and financial stress usually happens when we fail to create a plan on how we should spend our money. We call this spending plan a ‘budget’.
If you have life goals and they matter so much to you, then regardless of your current financial situation, even if you think it’s hopeless, you can always bounce back by building a solid budget plan – not sooner, not later, but today!
Why Is Budgeting That Important?
A budget is a financial strategy outlining your projected income and expenses for a specific timeframe, typically spanning a year. It helps ensure you will have enough money every month and all your needs are met. Most importantly, it helps you avoid problems like debt, overspending, or running out of money before your next paycheck.
Among the utmost importance of budgeting includes:
1. It can keep you from overspending.
Overspending happens when you exceed your planned or available budget, leading to a shortfall in financial resources. The result? Accumulated debt, financial stress, and hindered progress toward financial goals.
With a clear budget at hand, you’ll be encouraged to set clear limits for various expense categories, whether they be necessities, miscellaneous expenses, or savings. For easier tracking of your cash spending each month, a budget binder with cash envelopes is an incredibly helpful tool for dividing your income into different spending categories. The more you have a clear view of your monthly budget, the more you become mindful of the consequences of not sticking to that budget.
2. It can help you avoid or reduce debt.
Debt can be in different forms – loans, credit card balances, or mortgages. While incurring debt is always a possibility, unmanaged or excessive debt can lead to financial strain.
With a well-structured budget, you’ll be encouraged to allocate funds purposefully, and this minimizes the need for unnecessary borrowing. If you have existing debts, budgeting allows you to allocate certain amounts to pay off outstanding balances, thereby saving money on interest payments.
3. It helps you set clear life goals and work toward achieving them.
We all have milestones we want to achieve throughout our lifetime. Whether that would be buying a home, pursuing further education, or traveling, a budget will force you to map out your life goals and prioritize them within the overall financial plan. So by consistently setting aside a specific portion of your income to your savings, you are now another step closer to achieving your goals.
4. It helps you to be prepared for emergencies.
Life is unpredictable and you can never really know when emergencies will occur. But if there’s one thing that’s certain about these unexpected events, that is, they often bring financial challenges that can be overwhelming.
Budgeting empowers you to build and maintain an emergency fund which acts as a financial safety net. Knowing that you have a plan in place and funds designated for unforeseen circumstances provides a sense of security and control.
5. It helps correct your poor financial habits.
A huge part of why many of us deal with financial stress is because we don’t know when to stop, or what to prioritize – all on top of having no savings. A budget helps you decide what you must spend your money on because it actively curbs impulse spending, which is a huge factor of financial strain. So if you’re living beyond your means, budgeting actively breaks this cycle
How to Create A Budget
A budget is not a one-size-fits-all plan. Its structure is influenced by factors, such as:
- Income level
- Financial goals
- Lifestyle
- Debt obligations
- Fixed and variable expenses
- Household size
- Career stability
- Savings and emergency fund goals
So what budget plan would serve best your particular needs then? Let's break down the key steps to help you craft a budget that works for your financial goals.
1. Calculate Your Net Income
Calculating your net income provides a true picture of your financial situation. Determine your monthly income by adding up all reliable sources. This includes your salary, side hustles, or any other consistent income streams.
2. Track Your Expenses
Whether you jot them down in your notebook, make a spreadsheet, or use a money budget binder, having one tool that lets you track all your monthly expenditures will help you understand where your money is going.
3. Create Spending Categories
After listing your monthly expenses, categorize them as either fixed or variable. Fixed expenses are unavoidable bills like rent, utilities, transportation, insurance, food, and debt repayment. On the other hand, variable expenses, such as your gym membership or dining out, are more flexible and can be adjusted.
4. Calculate the Average Monthly Expense
Once you've sorted your expenses into fixed and variable categories, it's time to figure out how much you typically spend on each item every month. You’ll find it easy to calculate your fixed expenses because their cost remains consistent each month. But for variable categories, calculate the average monthly cost by examining three months' worth of expenses. This way, you establish a realistic budget based on your actual spending habits.
5. Make Adjustments
The final step in making a budget is to check how your net income compares to your monthly expenses. If you find that your expenses exceed your income, then you need to make some changes. Consider cutting down on costs and consistently adjusting your spending to steer clear of accumulating debt.
Choosing the Best Budgeting Tool For You
You must have realized by now that the key to taking control of your finances is to have a clear budget plan. But if you find the planning process quite complicated, there are tools out there that can guide you. From traditional pen and paper to modern software, there’s always something that will fit your specific financial needs.
To save you the effort of searching for them one by one, we’ll list them down below for you:
1. Pen and Paper
If you love the feel of paper beneath your pen, this one's for you. Grab a notebook, jot down all your expenses, and categorize them into needs and wants. Then, tally up your income. Allocate your income to cover your needs first, and any remaining funds can be allocated to your wants. It's a hands-on approach for those who prefer a tangible representation of their financial game plan.
2. Envelope System
This system is pretty simple as it only involves placing cash into a budget binder with envelopes, each with its own label. When the cash in an envelope is spent, it means no more spending should occur in that category until the cash is replenished. This old-school method promotes disciplined spending within your predefined limits. With cash in hand, your budget stays in control.
3. Spreadsheets
The best thing about spreadsheets is that they’re highly customizable. Excel and Google Sheets, for instance, offer free budget templates to users, although you can always create your own. You can create formulas, charts, and graphs – everything you need to track and analyze your financial data.
4. Budgeting Apps
Every budgeting app’s feature is unique, and while some are free, others require a subscription to premium plans to unlock their full features. What gives them the edge over the first three listed methods is their convenience, automation, and comprehensive features. Some widely recognized apps today include Mint, EveryDollar, and Goodbudget.
5. Banking Apps
Many banks are now providing budgeting features within their apps. These features can include expense tracking, categorization, and visual representations of your spending patterns. Your transactions get neatly categorized, so you know exactly where those dollars are headed – whether it's groceries, utilities, or that occasional treat-yourself moment. For instance, Bank of America has an AI-driven virtual assistant, called Erica, within its app.
Final Thoughts
Making a budget and sticking to that budget are two very different things. Even if you have a well-structured 3-month plan, 6-month plan, or even a one-year budget plan in place, there’s no guarantee of favorable financial outcomes if you lack these two things – discipline and consistency. And yes, financial literacy is a skill you can’t master overnight. But eventually, you will with the help of the right people, the right tools, and most especially if you help yourself.