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In my previous post, I talked about 5 reasons why you need to start a budget. In this post, I will actually explain to you exactly how to start a budget in 2020!
What makes me qualified to teach you about budgeting?
- For starters, I have a CPA and have worked as a Budget Analyst for multi-million dollar companies!
- I have kept a personal budget for the past 7 years which I update on a daily basis!
- I’ve never been in debt (minus my mortgage)!
5 easy steps to start your monthly budget
I am going to teach you how to start a monthly budget. That’s my preferred timeframe. You can choose your own timeframe, maybe you want to for every quarter, or every year. I leave that up to you!
1. Track all your income sources
To make sure that you’re only spending the money that you have, we have to first look at how much money you will actually see coming into your bank account. For budget purposes, any money coming in is considered “income.”
Possible income sources include: salary from day job (including bonuses), income from side hustle(s), investment income (bank interest or dividends), rental income, scholarship money, grants, money from parents or friends
Here’s a sample of my monthly income (from when I was a Master student):
2. Track all your expenses
Look back at your last month’s bank and credit card statements and figure out what your monthly expense breakdown is. Basically, what you have to do is make general categories (or buckets as I like to call them) and then add up all the expenses that fall under this category.
I like to this step by hand, however, Mint.com also offers a great tool. All you have to do is connect your bank and credit card accounts and you’re all set to go.
It’s up to you how broad or specific you want your expense categories to be. In general, I like to keep around 10 categories. I think anything more than this amount just gets too busy and difficult to track. But of course, having more categories means more detail which can give you more insight. It’s up to you how broad or specific you want your categories to be!
Some possible expense categories include:
- Education – tuition fees, school supplies, textbooks
- Entertainment – Netflix, magazine subscriptions, movies, concert tickets, sports event tickets, parties
- Food and drink – groceries, restaurants, coffee, drinks with friends
- Gifts – birthday gifts, anniversary gifts, wedding gifts, Christmas gifts
- Health & fitness – gym memberships, fitness classes (dance, yoga, pilates, etc.), toiletries/cosmetics, haircuts
- Housing – Mortgage or rent, property taxes, repairs and maintenance, home insurance
- Medical – health insurance, medication, dental care
- Other – clothing, toiletries, cleaning supplies, charitable donations, lottery tickets, cigarettes
- Transportation – car or bus/train pass, parking, gas, car insurance
- Travel – plane tickets, hotel costs, food
- Utilities – gas, electricity, hydro, home phone, cable TV, Internet
Here’s a sample of my monthly expenses:
In some months, you might have a zero in one category. That’s completely fine. Your income and expenses will vary every month for various reasons such as seasonality, holidays, etc.
3. Analyze your numbers!
Don’t worry, you can skip this step if you hate math 🙂
So, now you know how much income you have per month and how much you roughly spend every month. So what? These numbers are meaningless unless you do something with them.
So, let’s start analyzing!
First, use your total income for the month as you baseline (i.e. 100%). Go through each item on your budget and divide that number by your total income.
Percent of Income = Income or expense / Total Income
Here’s how my budget looks like after I’m done calculating the percentage for each item:
When you see your budget in percentages, you can then start analyzing how you spend your money and set some goals.
The 50-30-20 rule
As a rule of thumb, you should spend 50% of your income on “essential” items. For me, that’s housing, insurance, and food. I’m pretty close, these categories add up to 56% for me.
Second, 30% of your income should be for “non-essential” items like entertainment, shopping, etc. For me, this amount was far under at 14%. This is really good! I’m spending less on “non-essential” items than recommended (which means more money for savings)!
Last, and you guessed it, 20% of your income should go towards savings or paying down debt. I am saving 30% of my income (I only spent 70% of my income for the month).
4. Set goals
This is the fun part. You get to set goals and adjust your budget to make room for them.
If your expenses are higher than your income, then your first goal should be to bring your expenses below your income!
If your expenses are less than your income, then congratulations! You can then set more long-term saving goals!
For example, if you are saving for a new house and you want to save an extra 10% every month, then you either have to reduce all your expenses by 10% or increase your income by 10%. In general, income is harder to control than expenses. Let’s just focus on cutting your expenses down for now.
In my example, let’s say that I want to increase my monthly savings to 40%. I am currently at 30%, so I would need to reduce my monthly expenses by another 10%. Hmm, how can I do this?
Well, I look at the food amount. I am spending $300 a month on food. I could probably bring that down to $250 if I do some meal planning. That cuts my expenses down by 2%.
I also don’t need to travel every month. In fact, it gets pretty exhausting. I won’t travel next month. This cuts another 4% from my expenses.
Finally, maybe I found a new apartment that’s cheaper and I can cut another $100 off my rent. This brings me to the 10% that I need to cut from my monthly expenses to save 40%!
Easy and fun, right?!
5. Check in & adjust as needed
Sometimes, we set budgets that are unrealistic and then we fail at achieving them. It’s okay to readjust your budget and increase or decrease any amounts based on new information learned.
For example, in my above example, I said I could save $100 off rent. Maybe then I found out that all the apartments are actually more expensive than what I’m paying now. Then we’ll just have to bring my rent amount back up to $900.
Or maybe I found that cutting my food expense by $50 is unrealistic. I am starving myself to death. Then I will try to cut my food expense by $20 first, and then try to cut more as I get more used to eating on a budget.
The best part about keeping a budget is that it is flexible. I like to think of my budget as a living and breathing organism.
That’s the last step! Congratulations for completing your first budget!
This is my guide on how to prepare your very first budget. It’s not as hard as it looks. There are really just 5 easy steps to follow.
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