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Budgeting 101
by Scott W. Danger, CPA
Budgeting. Even a CPA thinks
this topic is boring. So why did I choose this topic to discuss? Because
unless you have an unlimited supply of cash and savings, it is probably
something you should think about and consider.
Most people think of a budget as a set of rules that tell you where you
can and more often can’t spend your money. I try to think of a budget as
a tool -- something you use to achieve a goal. Maybe your goal is a
special vacation or a new house. Maybe it’s saving for your kids college
education or your retirement. Or maybe it is much more basic such as
paying your monthly bills or paying off your credit card debt. Whatever
your goal may be, a budget can help you achieve it.
To develop a budget, you need to know what you make and where you are
spending your money. The best way to accomplish this is to track every
dollar your household earns and spends for one month. This is probably not
as difficult as it sounds. Your check register already tracks any checks
you write and deposits you make. And, every time you use your credit card
you get a receipt. What you are left with is the cash you spend. For this,
you need to keep a log noting every dollar of cash you spend.
At the end of the month, summarize all of your transactions and develop
your budget. To do this, you need to assign categories to each expense.
Each household will have slightly different categories but a typical one
could be as follows:
| INCOME:
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EXPENSES:
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Wages
Other
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Mortgage
Insurance
Utilities
Car payments
Food
Transportation
Clothing
Contributions
Childcare
Recreation and
Entertainment
Medical and Dental
Home maintenance
Vacations
Other |
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Now it is time to develop a budget. I like examples, so
let’s use a fictional family. We’ll call them the
Jones’. Tom is a carpenter, his wife Judy works
part-time at a local department store. They have two kids,
Tom Jr. who is 6 and little Susie who is 3. They live in a
modest house in the suburbs and Tom is saving for their
retirement with his company’s 401k plan. They know
saving is important but never seem to have any additional
money left at the end of month to save. They feel if they
had a budget they could better control their spending and
be able to save. They have three main things they want to
save for: an emergency fund, college for the kids, and an
annual family vacation.
Both Tom and Judy kept track of all their expenses last
month. It wasn’t easy, but now they have a snap-shot of
where there money is going. They assigned categories to
every expense and then totaled each category. Below is
what they found:
Now that we know where they spend their money, we can
develop their household budget. To do this, we need to
decide if this was a "typical" month. For Tom
and Judy, it was. Their paychecks were average as were
there other bills for the month. Remember, their goal was
to be able to start saving for an emergency fund, college
for the kids and an annual vacation. Last month, they had
$110 to put away. That’s a start, but it won’t get
them far.
To develop the Jones’ budget, we will use their
actual month as a starting point. From there, we will
adjust their spending in certain categories and try to
achieve their goal of saving. Their required expenses do
not change month-to-month so they were the easiest to
budget. On the other hand, their flexible expenses could
be adjusted. The food budget was set at a lower amount
than what they have actually been spending. Food is an
area that many families, with proper planning, can cut
expenses. By shopping sales, using coupons and making more
meals from scratch, it is a fairly easy area to save
money. Entertainment is another area where many families
can cut back and where the Jones’ found they could
reduce their spending. This doesn’t mean cutting back on
family activities or having fun. It just means being a
little pickier on where you choose to spend your
entertainment dollars and also making use of the free
activities communities offer. By making these changes in
how they are spending their money, they can now achieve
their goals of saving for an emergency fund, their
children’s college fund and an annual family vacation.
This is what their budget now looks like:
Tom and Judy have a budget. Now how do they stick to
it? The key is discipline. It is always knowing how much
money you have remaining in your budget and only spending
if your budget allows. There are many good computer
programs available which can help track your expenses and
budget. One may have come pre-loaded on your personal
computer. You can also use a notebook with one page for
each category. At the top of the page, write your starting
budget amount. Then, as you spend money throughout the
month, write down what you purchased and subtract it from
your budget. This will give you a running total of what
remains in your budget. Another good way is by using
envelopes and cash. Have an envelope for each category.
You can skip the categories that you pay by check and that
don’t change month to month, such as your mortgage and
insurance. At the beginning of the month, put cash in each
envelope totaling the amount of the budget. Then, use this
cash to pay your expenses throughout the month. Whatever
cash is in the envelope is what you have left for the
month. It’s a great reminder as to how much you have
remaining. Just remember to take cash out if you need to
charge or write check for an expense.
Whatever way you choose to make your budget work, the
key is to stick to it and to always know what remains in
your budget. Good communication is key. Budgeting is not
easy and I guarantee there are things more fun but if you
have specific financial goals, it’s important. Give
budgeting a try. Fine-tune it as you go, and good luck!
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