Creating a budget may seem like a painful exercise, but having one is vital if you want to keep your financial house in order. Ultimately, a budget will enable you to see how much money you have available and where your money is going. To make things easier, you can use a simple a step-by-step process to develop your own budget.
Step 1 – Identify a budgeting software program. Whether you use a customized spreadsheet or specialized budgeting software, maintaining your budget in electronic form will eliminate headaches down the road. If you use a personal finance software program, built-in budgeting tools can create your budget for you.
Step 2 – Collect your financial information. This includes pay stubs, bank statements, investment accounts, mortgage statements, car payment information, utility bills, insurance expenses and any information regarding a source of income or expense. This information will enable you to project average monthly expenses, so the more detailed the information the better the result will be.
Step 3 – Record sources of income. If your income consists of an employer paycheck from which taxes are automatically deducted, then you can use your net income number. If you are self-employed or have additional income outside of a regular job, be sure to include that income as well. Record your total income as a monthly amount.
Step 4 – Create a list of monthly expenses. Write down a list of all the expected expenses you plan on incurring over the course of a month. This includes a mortgage payment, car payments, auto insurance, groceries, utilities, entertainment, dry cleaning, auto insurance, retirement or college savings and essentially everything you spend money on.
Step 5 – Determine whether expenses are fixed or variable. Fixed expenses are necessary to provide for essential items. They include expenses such as your mortgage or rent, car payments, cable and/or internet service, insurance payments, tuition expenses, credit card payments and the like. These expenses are considered “fixed” because they will be constant from month to month. On the other hand, variable expenses will change from month to month and include items such as groceries, gasoline, entertainment, eating out and gifts. The variable expenses category includes expenses that are more easily modified if you need to make adjustments to your budget.
Step 6 – Total your monthly income and expenses. If your monthly income exceeds your monthly expenses that is good news. This means you have extra money at the end of each month that you can apply towards savings or paying down debt. If you have higher expenses than income it means you will need to make some cuts in order to avoid staying in over your head and risking your financial well-being.
Step 7 – Cut your variable expenses as needed. If your monthly expenses are higher than your income, look closely at your variable expenses and determine which ones can be eliminated or reduced. Since these expenses are typically non-essential some minor sacrifices can often shave your expenses enough to equal your income. If you cannot match your expenses to your income by reducing variable expenses, then you should take a hard look at whether you are living above your means and need to adjust fixed expenses to a level that you can manage.
Step 8 – Review your budget regularly. It is important to review your budget monthly (or at least quarterly) to make sure that you are staying on track. Compare your actual expenses to those you have budgeted to see if there are variances. This will help you to spot undesirable trends that you may want to correct before they get out of hand.
It takes discipline to create and budget and, more importantly, to live by one, but the process will reap many rewards and may enable you to sleep more soundly knowing that you are living within your means and staying on the right financial path.