How to Make a Budget

Budgeting is an essential part of financial management. It helps you to stay on top of your finances, track your expenses, and make informed decisions about your money. However, creating a budget is only the first step; sticking to it is equally important. In this article, we will discuss how to make a budget and stick to it.

Step 1: Identify Your Income

The first step in creating a budget is to identify your income. This includes your salary, bonuses, tips, and any other sources of income. If you have a variable income, such as freelancing or commission-based work, it’s essential to estimate your income based on an average over several months. I like looking over a 12 month period, as there are months where I bring in only passive income, and months where I bring in active income from various sources.

It’s important to be realistic about your income when creating a budget. Don’t include money that you’re not sure you’ll receive, such as a potential bonus or a tax refund. Instead, focus on your regular income and adjust your budget as needed if your income changes.

Step 2: Identify Your Fixed Expenses

Fixed expenses are expenses that remain the same each month, such as mortgage/rent, internet, car payments, daycare, student loans and insurance. Make a list of all your fixed expenses and their costs. If you’re not sure about the exact cost of a particular expense, estimate it based on your past bills or statements.

Step 3: Identify Your Variable Expenses

Variable expenses are expenses that fluctuate each month, such as groceries, utilities, entertainment, and dining out. To determine your variable expenses, review your bank and credit card statements from the past several months and categorize your expenses.

It’s important to be thorough when identifying your variable expenses. Don’t forget about occasional expenses, such as car maintenance or gifts, that may not occur every month but should still be included in your budget.

Step 4: Set Financial Goals

Once you’ve identified your income and expenses, it’s time to set some financial goals. This can include short-term goals, such as paying off debt or saving for a vacation, and long-term goals, such as saving for retirement or buying a house.

Setting goals is an essential part of budgeting because it gives you something to work towards. It’s important to be specific and realistic when setting your goals. For example, instead of saying “I want to save money,” set a specific savings goal, such as “I want to save $500 per month for a down payment on a house.”

Step 5: Allocate Your Income

The final step in creating a budget is to allocate your income based on your expenses and goals.

There is a method known as “Pay Yourself First“. It doesn’t mean pay yourself “fun” money first; it means allocating money to your financial goals first (emergency savings, retirement, house, etc.). By paying yourself first, it prioritizes your financial goals and forces you to make concessions further down in variable expenses or “fun money”.

After you’ve paid yourself first, subtract your fixed expenses from your income. Next, allocate money to your variable expenses based on your past spending habits.

When allocating your income, it’s important to prioritize your expenses and goals. For example, if you have credit card debt with a high-interest rate, it’s a good idea to prioritize paying off that debt before allocating money to other goals.

It’s also important to enjoy your life and not feel like you’re working for the sake of working, just to pay off expenses. My wife and I have always allocated a certain dollar amount each month to a “fun” account. This account pays for zoo tickets, wine tastings, petting farms, water parks, etc.

It doesn’t have to be a lot, but make it a goal to do something fun.

I’ll get into more detail in future articles about the use of separate accounts, but for now, this will serve as a general outline.

Tips for Sticking to Your Budget

Creating a budget is only the first step; sticking to it is equally important. Here are some tips for sticking to your budget:

Track Your Spending

One of the most effective ways to stick to your budget is to track your spending. There’s a saying in the business world that what you track, changes. If you start tracking your sleep patterns with a wearable device, your sleep will change. Start tracking calories? Your weight will change.

Keep a record of all your expenses, either by using a budgeting app or by keeping a spending journal. By tracking your spending, you can identify areas where you’re overspending and make adjustments as needed.

If you find that you buy a new pair shoes every other month and aren’t reaching your financial goals, you may need to cut back on those types of purchases.

Use Cash Envelopes

Using cash envelopes is a simple but effective way to stick to your budget. Put cash in an envelope for each category of expenses, such as groceries or entertainment. Once the cash in the envelope is gone, you can’t spend any more in that category for the month.

Consider options to stretch your money further. Generic ketchup is just fine on a hot dog vs. Heinz, and it’s a couple dollars less. If you go with the generic option for all the available items in your cart, you will save a significant amount of money, not only in that shopping trip, but throughout the entire year.

Aldi salad dressing bottles may not look as cool as artisanal glass bottles, but it doesn’t matter.

Automate Your Savings

Automating your savings is a great way to stick to your budget and reach your financial goals. Set up automatic transfers from your checking account to your savings account or investment account each month. This way, you won’t have to remember to transfer money manually, and you’ll be less likely to spend money that you should be saving.

Cut Back on Non-Essential Expenses

If you’re struggling to stick to your budget, it may be time to cut back on non-essential expenses. This can include dining out, entertainment, or subscriptions that you’re not using. Look for ways to reduce your expenses without sacrificing your quality of life.

Can you get by with the Hulu ad-plan for $5 per month, as opposed to the ad-free plan at $16 per month?

Going out with friends on a Friday night is great, but it adds up quickly if it’s a weekly habit and everyone takes turns buying rounds for the table. Try limiting yourself to two drinks in an outing, and don’t buy rounds for people.

Stay Accountable

Sticking to a budget can be challenging, especially if you’re used to overspending. To stay accountable, consider working with a financial advisor or joining a support group. You can also enlist the help of a friend or family member who is also trying to stick to a budget.

Be Flexible

Remember that your budget is not set in stone. Life is unpredictable, and unexpected expenses can arise. Be flexible with your budget and make adjustments as needed. If you overspend in one category, look for ways to cut back in another category.

Final Thoughts

Creating a budget and sticking to it is essential for financial success. By identifying your income and expenses, setting financial goals, and allocating your income, you can create a budget that works for you. To stick to your budget, track your spending, use cash envelopes, automate your savings, cut back on non-essential expenses, stay accountable, and be flexible. With these tips, you’ll be well on your way to achieving your financial goals and living a financially healthy life.

Good luck!

-Chris