The uncertainty that came along with the global pandemic has motivated many people to take control of their finances. To do that, you must get clear on your goals, and create a budget that aligns with them. Today, I’m going to show you how to create a budget that works!
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How to Create a Budget that Works
First things first – set some goals.
Studies have shown that financial goal-setting is the key to building wealth. THE KEY!! People that set goals are more successful financially, regardless of income level. They also feel better about their financial situation than people that do not set goals and plan.
Before you create a budget, you need to get very clear on your goals. If you have no idea where you’re going, how will you ever get there? Personal finance is just that – personal. I can share ideas and tips that work for me, but ultimately, you need to create a budget that works for you.
Do you want to buy a home? Do you want to travel? Or do you want to get rid of your debt? When do you want to retire? When do you want to start a family? These are just a few questions you should ask yourself.
James W. Frick once said, “Don’t tell me what your priorities are. Show me where you spend your money, and I’ll tell you what they are.”
Oomph. That one hits different. What do you value? Values are the things that you consider to be most important. Your values influence how you behave, how you spend your money, and how you spend your time. Again, this is personal.
For example, I value travel and exploration. Therefore, my goals always include saving for vacations. Someone else may not prioritize travel as much as I do. Perhaps they value creating a home for their family and choose to set a savings goal for a down payment on a home. There are no right or wrong answers here.
At the end of 2019, I set a goal to pay off my car by New Year’s Day 2020. I created a plan, and by the end of February 2020, my car was paid off (a year early)! I know I wouldn’t have been able to pay it off without setting concrete goals. In doing so, I prioritized eating at home, going out less, and putting any extra money towards my car loan. I had the end goal in mind when I set my budget, and I kept coming back to that goal anytime I wanted to splurge.
Take some time to reflect on your values and brainstorm goals that align with them. Next, prioritize which goals are most important. Do you need to achieve a goal before you move on to the next one? For example, before I buy a home, I want to pay off at least half of my student loans.
I find that writing out my goals is more effective than creating a note on my phone. That’s why I included a thorough goal setting section in my product, The Ultimate Budget Binder. It’s nice to look back at the goals you wrote, especially once you achieve them.
Before you create your budget, let’s go over the components of a budget. I use and recommend the zero-based budget, where you assign every dollar a purpose. That means that your Income – Savings – Expenses = $0 (or as close to it as possible). If you spend more than you earn, you’ll get a negative number. If you spend less than you earn, it will be positive.
When you’re writing out your expenses, some people think about it in terms of wants and needs or fixed expenses and variable expenses.
Wants are the things that you could cut out of your budget if you needed to save money. Examples include eating out, buying new clothes or beauty products, gym membership, etc.
Needs are things you must have to survive or financial commitments you’ve made. Examples include rent/mortgage, food, debt payments, utilities, etc.
Fixed expenses have a fixed price – it stays the same each month, i.e., rent/mortgage.
Variable expenses can change from month to month, i.e., utilities.
So, how much should you be spending in each category? It depends on your financial situation. One of the most popular methods is the 50/20/30 budget – you will spend no more than 50% of your income on needs, no more than 30% on wants, and you’ll save the remaining 20%.
Check out my post, How to Use a 50/20/30 Budget to Achieve Your Financial Goals, where I break down exactly how to use it.
Another option is the 80/20 budget, where you save 20% of your income, and spend no more than 80%.
These are just guidelines. 69% of Americans save 10% of their income or less. If you are unable to save 20% of your income, that doesn’t mean you nix the idea of saving altogether. Start with 1% (or whatever you can), and set a goal to increase it each year/month.
Creating Your Budget
The moment you’ve been waiting for! Now that you’ve gotten clear on your goals and have a basic understanding of what goes into a budget, it’s time to create your own.
Step 1: Understand your spending habits.
Take a look at your bank statements over the past month. Does anything stand out to you? Are you surprised by how much you spent on a specific category? If you use cash, track your spending for the next week. It’s important to review your transactions because it can help you understand your habits.
Separate the transactions into wants/needs or fixed/variable expenses. Be sure to calculate how much you saved. If you printed out your statement, you could use three different highlighters to make each category stand out.
Step 2: Build your budget.
Once you have a list of all of your expenses, it’s time to build your budget. There are apps and printable templates you can use to separate your income, expenses, and savings. I recommend using a pencil or having Wite-Out close by for this exercise.
Step 3: Make adjustments.
Now that everything is out in front of you, perhaps you’ve realized that you are spending way too much eating out or that you haven’t saved a penny. When you subtract your savings and expenses from your income, is it close to zero? If not, that’s okay! Think about how you can reallocate funds from one category to another.
The most important thing to keep in mind is that this is YOUR budget. That means YOU get to tell your money where to go. If you want to spend more on eating out than you do on groceries, that’s your decision. Budgets are not restrictive because you have control over them!
If, after making those adjustments, you’re still spending more than you earn, or aren’t saving as much as you’d like, it’s time to brainstorm ways to increase your income. Do you have a talent or skill that you can monetize? Can you get another job or negotiate a raise? Can you rent out your home on Airbnb? I’m a huge fan of side hustles, no matter your income. After all, the average millionaire has seven streams of income.
Sticking to Your Budget
Creating a budget is the easy part. Now you have to stick to it. Here are a few tips that have helped me in the past. If you have any other suggestions, please leave them in the comments!
Pay yourself first.
Before you allocate anything to your expenses, determine how much you’re going to save. My paychecks are automatically distributed to my checking and savings accounts based on the percentages I’ve set. If you never see it, you won’t miss it!
Create a sinking fund.
Set aside money each month for large expenses that only occur a couple of times a year. These are things like property taxes, vehicle registration, holiday gifts, etc. Divide the amount due by the number of months left until the due date. Then save that amount each month in a separate account. By the time it comes due, it won’t throw off your budget because you’ll already have the cash saved.
Move your savings account to another bank.
Your emergency fund and other short-term savings accounts should be easily accessible; however, they shouldn’t be too easy to access. Otherwise, you’ll just end up transferring funds back to your checking account when a fashion emergency occurs. I love Ally’s new savings buckets. You can have one savings account with up to 10 buckets.
For example, I have a vacation savings account and can divide it by the specific trips I’m planning. I also have an account for “future plans,” such as my home down payment and wedding (different buckets within the same account).
Unsubscribe from the email newsletters for your favorite stores.
This one was tough for me – but I discovered that I actually didn’t need to go shopping all the time after all. (Side note: I also don’t follow any stores on social media.)
Research has shown that spending cash is more painful than swiping a debit or credit card. Something about seeing cash dwindle in your wallet motivates people to spend it more wisely. Once it’s gone, it’s gone. Consider using envelopes to separate expenses, i.e., groceries, beauty, fun, etc.
Track your spending.
Raise your hand if you have felt the panic of not knowing where all your money had gone? Challenge yourself to track everything you spend this week/month. If you’re out and about, add each transaction to the notes app on your phone and add it to your tracking sheet when you get home. This exercise will make you more mindful of your spending over time.
Calculate how many hours you have to work to pay for an item.
While this may seem a little extreme, it works. Next time you want to make a large purchase, think about how many hours you would have to work to pay for it in cash. Is it worth 20 hours of your time? 40 hours? You work hard to earn that money. Make sure it’s truly worth it.
Try having a no-spend month.
Some people commit to not spending anything at all for an entire month. Others choose one category that they normally overspend in (i.e., eating out), and vow to not spend any money in that category for a month. The goal is to encourage better spending habits in the future.
Get an accountability partner.
Getting your financial life together is fun, but it’s even more fun with friends! You’d be surprised, but I bet your friends also want to manage their money better, they’re just scared to mention it. Share your goals with someone you trust, and ask them to hold you accountable. Consider holding weekly check-ins to make sure you’re both staying on track with what you said you were going to do. Make it even more fun by including a reward at the end. For example, if you both stick to your budget for the month, you can go out for a celebratory dinner together.
Set up automatic payments.
Avoid paying late fees and negative impacts on your credit score by ensuring all of your payments are on time. It also makes your life easier by handling it automatically, so you don’t have to spend time logging into multiple accounts pay your bills. If you’re unable to do this right now, make it a goal to work towards achieving. It’s a game-changer!
Keep your goals in mind.
Find ways to work them into your budget. Saving $1 towards your goal is better than saving $0. Every little bit adds up. When you feel like giving up, go back to why you’re doing this in the first place.
Okay, that was a lot, so I’m going to keep this conclusion short. Remember, your budget is designed to help you achieve your goals at that time. Adjust your budget as your circumstances and goals change. If you’re looking for a budget template, click here to get The Ultimate Budget Binder. I’m always here if you have any questions. Send me an email (firstname.lastname@example.org) or DM me on IG if you’d like to chat!