How to Create a Realistic Budget in Six Easy Steps
Budgeting might be easier than you think. You don’t need to be an accountant to figure out where you can cut back on your spending. You don’t need to pay anyone to do it for you, either. Really, all you need is a pen or pencil, a few sheets of paper, and some time to really think about where your money is going and what monthly expenses are really important to you.
Don’t get caught up in focusing on financial emergencies. If you want to be prepared, read more about how to start a three to five month emergency fund. This exercise is to help you tackle your monthly expenses and find out where you are comfortable, financially speaking.
Step One: Figure Out Your Monthly Income
To get started, add up your monthly income. Include all the ways you make money in a given month. Do you have a second job or get help from your parents? Include that. If you’re a student, maybe you rely on a reimbursement check and divide it monthly for your expenses. For this exercise, pool together any post-tax income you have. If you make $1,000 (after taxes) per month at your job, get $500 per month in help from your parents, and have $200 per month from your reimbursement check, or other source of income, then your total monthly income is $1,700. Write that number down.
Step Two: Put Your Monthly Expenses into Buckets
Don’t literally put your money into a bucket, but list your expenses on a piece of paper in four categories. What are you paying money for, and how much does it cost? That’s what you’ll want to write down in the following categories:
Necessity bucket: What are you spending money on that you need, or at least think you need? For starters, you probably pay for housing (rent, mortgage and insurance), food (groceries), basic utilities (electric, water, trash, natural gas), household supplies (toilet paper, dog food, toothpaste, etc.), transportation (car payment, insurance, gas, bus fare, etc.) and communication (phone bill, internet). These may not be all of your necessities, and some may not be necessities, but it will at least get you thinking about what you need on a month-to-month basis.
Debt Bucket: In what should be relatively easy, include your debt that’s not your monthly housing payment or car payment. This includes student loan payments, personal loans or credit card debt.
Lifestyle Bucket: Next, write down the things you enjoy and spend on monthly, but could get rid of relatively easily if you had to. This should largely include categories of the entertainment variety and those more consistent with your lifestyle choices. This layer probably includes cable, streaming services for music or movies, dining out, your gym membership, memberships in certain clubs and magazine subscriptions. If you’re stuck in a contract with any of these, consider adding the expenses to the debt category for now, and figure out when your contract ends and when it can be taken out of your budget.
Luxury Bucket: Finally, what do you spend money on that you absolutely don’t need. These might be the things you really think hard about purchasing when you’re at the store or browsing the internet. Maybe when you have $100 left from your paycheck and you buy something such as expensive make-up, video games, fancy clothes or electronics. To be honest, these are the things you’re wasting your money on. That’s not to say you can’t buy nice things, but if you’re trying to free up your budget, this category should include the things that are easiest to get rid of.
Step Three: Do the Math
Take the total amount you’re spending from all of your buckets, and subtract it from your income. What’s happening with that leftover money? If it seems like too much, you’re probably not being honest with yourself or you’re missing expenses. If your expenses are greater than your income, you either miscalculated or you are in serious trouble.
Assuming something is leftover, where is that money going? If it’s there, it should be somewhere real, like your checking account or savings account or stashed away in a form of cash. You may get to this step and realize that you’ve missed things. It’s OK to go back and add something you forgot, but be honest with yourself in what your regular expenses are. If you’re not doing that, then this entire exercise is a waste.
Step Four: Prioritize all your items
Get another piece of paper, take every item on your expense list, and layer it in importance from least important at the top (the item from your luxury bucket that you do not need at all) to most important at the bottom (your most important necessity you’d struggle to live without). Don’t list your most important items at the top of your list, write down the least important first.
Step Five: Make Cuts
This is both easy and hard. Start crossing the items off your list that you don’t need. Every few items, stop to check if you’re comfortable with that budget. You should notice a pattern, and that pattern is that it’s harder to cross off each item just a little bit more than the last. This is important because you don’t want to change your lifestyle too much, if possible.
What that means is that you should still be you and keep doing the things that make you happy. If you get pumped about going to the gym, it’s hopefully high enough on your priority list, and your expenses are low enough, that you can keep going. There very well may be a financial emergency in which you have to cut your gym membership even though you enjoy it, but hopefully, in staying financially disciplined, you’ll be able to add it back to your budget soon.
Step Six: Review and Adjust
You’ve come to a stopping point in cutting your expenses. Hopefully, it feels great to free up some cash for whatever you need to put it toward. But why stop now? If you’ve gotten to a point where you don’t feel comfortable crossing anything off, there’s still ways to get creative in cutting your spending.
Maybe you’ve kept your cable package in your budget. Review it and check to see if there’s a cheaper cable package you’d be satisfied with. Maybe you realize you don’t need Netflix and Hulu. Maybe your gym membership includes the ability to go to all of the locations for an extra fee, but you only find yourself going to one location. Whatever it is, there are probably more ways you could find spending cuts that don’t include changing your lifestyle.
Hopefully this exercise has been helpful, and you feel free from the burdens of financial stress. Don’t be afraid to revisit this exercise multiple times per year, if that’s what it takes you to feel fiscally responsible. If you need help prioritizing your finances, stop by the Frenchtown Financial Opportunity Center and we’ll help you get started.
*The content provided in this article consists of the opinions and ideas of the Frenchtown Financial Opportunity Center, does not constitute legal or financial advice, and should be used for informational purposes only. Any decisions you make based on the information contained in this article is made in your sole discretion and liability. The Frenchtown Financial Opportunity Center disclaims any damages or liability for decisions you make based on the information provided.