It's never too late to get in control of your money and keep your financial affairs well organized. Budgeting may not sound like the most exciting activity in the world, but it's definitely a sure-fire tool that will help reach the goals you have outlined for yourself and your family. Building a budget is a vital step in the financial planning process, since it gives you a clear understanding of how much money you have coming in and how you spend it. More importantly, effective budgeting leads to better personal finance management that can help you increase savings or get out of debts.
Creating a budget is indeed a challenging task, however the following 5 basic steps will guide you through the budgeting process and help you design a realistic plan:
1. Understand why you are budgeting
Before starting a budget, try to understand why you need one in the first place. Understanding why you are budgeting is very important in defining your priorities and outlining your future goals. The core idea behind budgeting is spending less than you earn and save some money each month. For some people it's saving for a house, for others – building a nest egg or getting out of debts. However it's important to remember that a budget is not the panacea to all your money problems; it's just a road map that will get you where you want to be if you follow certain rules.
2. Know how much you earn
In order to build a realistic budget, you should know how much money you bring home every month. Record all your regular sources of income (monthly salary after tax deductions, state benefits, rental income), as well as any irregular income (side jobs, investments, bonuses). All these earnings make up your monthly net income that you will base your budget on. When you have irregular income, it's better to average out the last 3-6 months and use that figure for budgeting purposes.
3. Know how much you spend
This part can be very tricky, so try to be as accurate as possible when writing down all your expenses if you want to create a workable budget that you'll be able to follow. Include all the receipts, utility bills and other expenses that occur during a month and divide them into categories. If you want to be overly specific when itemizing your expenses, besides more general categories you may also use subcategories. Expenses can be fixed (stay relatively the same from month to month: mortgage, Internet/cable) and variable (tend to change from month to month: gifts, clothes, entertainment), as well as regular (food, utility bills, gasoline) and irregular (holidays, house repairs).
4. Do the math
Now that you've gathered all the necessary information, add up all your income and subtract your total expenses. The result will tell you whether you overspend or underspend. Of course, the ideal budget planning scenario is when expenses don't exceed your income. In this case you can use the surplus towards your financial goals. If you have a balanced budget (expenses equal earnings), it means that you're living within your means. This scenario may work for people that don't have to worry about paying off outstanding debts or saving for retirement. If you end up with a negative number, then you'll have to find ways to decrease spending. You may want to dig deeper into your variable expenses and determine how you can trim them down to fit your income. Be realistic and don't go overboard in trying to cut back on expenses. Another option is to uncover ways to increase your earnings. Be creative, turn your hobby or talents into additional sources of income.
5. Monitor and adjust your budget
Once you have a well-planned budget in place, it's important to monitor it regularly and make sure you stay on the right track. Record your expenses daily and check your overall budget performance at least once a week to ensure that you are in sync with your budget limits. Keep in mind your long-term goals – they will help you stay motivated and more easily embrace the changes in your spending habits. If this is your first budget, after the first month you'll most probably discover that your original budget has some flaws and needs tweaking. Don't be afraid to adjust the numbers to reflect reality, otherwise you'll soon fall behind and lose motivation in wanting to follow your budget. An effective budget is your best ally in living a financially stress-free life!