My goal to help all my clients make smart financial decisions, retire wealthy with their home paid off, and be able to leave their children's children an inheritance; setting up and keeping a budget is the first step to this.
There are a lot of budgeting methodologies out there from the envelope method to the Zero-Sum Budget, to the “traditional” Line-Item Budget method. All budgets are good and can be great at different times in your life.
However, my method is a little different.
I believe that you should get to a place in life where you can have a loose budget. This is where you review your spending at the end of every month and compare your spending categories to your suggested budget categories. If any category is over the budgeted amount look through all expenses in that category and understand why. Ask your self is that ok? Did you overspend and need to work on reducing that category? Is the budgeted amount for that category not realistic for your lifestyle and needs to be increased? In general, it is best to stick to the budgeted amount, however life happens, and life doesn't stick to a budget. Sometimes events out of your control will cause your categories to be lower and some higher. The important thing with a budget is to review it monthly and understand where you are over and under spent.
The ultimate goal is to live within your means and spend less than you make, while saving 20% of your income. If you save 20% of your income for your entire life you will be set for retirement. My rule of thumb is if you save 20% of your income you can spend the rest on whatever the hell you want. But the first step to get there is setting up a budget.
My favorite budgeting software is Quicken. There are a lot of other more modern or online tools out there and they basically all do the same thing. Whatever program or system you choose to use here are the steps to help you get started:
First - create your budget categories. These are all categories that you are going to spend money on every month. Every dollar you spend needs to fit into one of these categories. It is ok to create a miscellaneous category as a catch all.
The software you select should come with a default category list. You’ll want to edit and rename the categories to fit your lifestyle. For example, one category for "Bills and Utilities" rather than multiple categories for, cell phone, internet, power, gas, sewer, garbage, etc. There are other things I want to get more granular on and track, for example eating out. I use a few categories, "coffee shops", "fast food", "restaurants". I do this because I want to track and improve the amount I spend on fast food. For both financial and health reasons I want to make sure I limit myself in these areas. Remember, keep your budget simple, do not include categories you are not actually going to use.
Second - Set up your accounts and import all transactions for the past 60 days.
All software will allow you to connect to your banks and import your transactions. Import the last 60 days’ worth of transactions.
Once all of your transactions are in the software you will need to go through and categorize them to the categories you set up. If you run into some transactions that don't fit into any category but will occur regularly, make a new category. If it will happen rarely add it to the misc. category to keep things clean.
Review that and determine what your monthly budget should be for each category. Some should be what you have averaged spending the past two months and others you will instantly see that you are spending too much and needs to be lower. (For many it’s the fast-food category)
Create general monthly budget amounts in each category in your budgeting software budget tool.
Set up a reoccurring reminder on the first of each month to remind you to go into your budgeting software and review all transactions. In the future most transactions should auto categorize so it should only take 15 minutes to review the transactions that were auto categorized as well as categorize anything new or anything that didn't get categorized. Once everything set up in the proper categories then go run the previous month budget report so that you can see what you spent in each category next to what your budgeted amount was.
Print this out and spend a few minutes reviewing it.
The last step once your budget is set up is to create your financial goals. This could be a certain savings amount by the end of the year, paying off any loans you have or paying down a credit card.
Most budgeting software will have a goals section where you can input a goal and then visually watch your progress. You always need a goal. Having goals paired with a budget will change how you look at your money. You'll start to see how every decision you make matters to your greater financial health.
Again, there are times in your life where a strict envelope or other budgeting style is required. My goal is to get you to the point in your life where you are saving 20% of your income, living under your means, and can buy whatever you want with the other 80% of your income. Once you get to this point, a loose budget and a budget review every month is all you need.
If you need advice on what you can do to fit your real estate or investment goals into your planning for the year, reach out! I would be happy to review your situation to get you where you want to be at the end of 2022.