What is a Budget and How to Make One?
October 9, 2019 • 5 mins
Do you ever wonder where your money goes each month? Does it seem like you're never able to get ahead? If so, you may want to make a budget to help you keep track of how you spend your money and help you reach your financial goals.
What is a budget?
A budget, or if you want to use a more positive name, a spending plan, is a tool to help you take charge of your spending on a daily, weekly, and monthly basis. It’s the process of identifying your current monthly income and expenses, your spending habits and aligning them with your financial goals. A budget is a way to keep money from slipping away unnoticed, allowing you to take charge of decisions such as what to buy, when to buy it, and why.
A budget allows you to take charge of decisions such as what to buy, when to buy it, and why."
How to make a budget
- Examine your financial goals.
Before you establish a budget, you should examine your financial goals. Start by making a list of your short-term goals (e.g., new car, vacation) and your long-term goals (e.g., your child's college education, retirement). Next, ask yourself: How important is it for me to achieve this goal? How much will I need to save? Armed with a clear picture of your goals, you can work toward establishing a budget that can help you reach them.
- Identify your current monthly income and expenses.
To develop a budget that is appropriate for your lifestyle, you'll need to identify your current monthly income and expenses. You can jot the information down with a pen and paper, use a worksheet, or you can use one of the many software programs available that are designed specifically for this purpose.
- Start by adding up all of your income. In addition to your regular salary and wages, be sure to include other types of income, such as dividends, interest, and child support.
- Next, add up all of your expenses. To see where you have a choice in your spending, it helps to divide them into two categories:
- Fixed expenses (e.g., housing, food, clothing, transportation) and
- Discretionary expenses (e.g., entertainment, vacations, hobbies). You'll also want to make sure that you have identified any out-of-pattern expenses, such as holiday gifts, car maintenance, home repair, and so on.
To make sure that you're not forgetting anything, it may help to look through canceled checks, credit card bills, and other receipts from the past year. Finally, as you list your expenses, it is important to remember your financial goals. Whenever possible, treat your goals as expenses and contribute toward them regularly.
- Evaluate your budget.
Once you've added up all of your income and expenses, compare the two totals. To get ahead, you should be spending less than you earn. If this is the case, you're on the right track, and you need to look at how well you use your extra income.
If you find yourself spending more than you earn, you'll need to make some adjustments. Look at your expenses closely and cut down on your discretionary spending. If you have selected financial goals, such as paying off credit card balances or saving for retirement, do the math on how to adjust your spending to fund the goal.
And remember, if you do find yourself coming up short, don't worry! All it will take is some determination and a little self-discipline, and you'll eventually get it right.
- Monitor your budget.
You'll need to monitor your budget periodically and make changes when necessary. But keep in mind that you don't have to keep track of every penny that you spend. In fact, the less record keeping you have to do, the easier it will be to stick to your budget. Above all, be flexible. Any budget that is too rigid is likely to fail. So be prepared for the unexpected (e.g., leaky roof, failed car transmission).
How do you cut costs if you are spending too much?
If you are spending too much, there are several ways to cut back. One approach is to work on changing your spending habits. Suppose you are spending too much money on particular items (such as clothing) or spending more money at certain times of the month (near payday). By being aware of those habits, you can make appropriate changes. You may also try shopping smarter and reducing restaurant and/or entertainment expenses. Another option is to downsize to a less expensive car or home to reduce spending.
You may also reduce spending by reducing the cost of your debt. One way is to consolidate or refinance high-interest loans. As mentioned, you shouldn't be too hard on yourself, but make a few changes. In time, you may be able to bring your spending under control.
How do you increase your income?
To stay on budget, you must always have enough money coming in. There are a number of ways to increase your income if you need to. You might ask for a raise, take a higher-paying job, take a second job (maybe one from home), or turn a hobby into a business. You can also see if you have any household items or asset you’d like to sell.
Tips to help you stay on track with your budget
- Involve the entire family: Agree on a budget up front, meet regularly to check your progress and adjust/make changes as needed
- Get in the habit of saving: Try to make budgeting a part of your daily routine
- Stay disciplined but don’t be too hard on yourself or you may become frustrated and abandon the whole effort
- Start your new budget at a time when it will be easy to follow and stick with the plan (e.g., the beginning of the year, as opposed to right before the holidays)
- Find a budgeting system that fits your needs (e.g., budgeting software, worksheet)
- Distinguish between expenses that are "wants" (e.g., designer shoes) and expenses that are "needs" (e.g., groceries)
- Build rewards into your budget (e.g., eat out every other week)
- Avoid using credit cards to pay for everyday expenses: It may seem like you're spending less, but your credit card debt will continue to increase
Source: Broadridge Financial Solutions, accessed June 14, 2019.