Most people need some way to see their monthly spending. Budgeting can make you feel more in control of your finances and make it easier to save for your goals.
The key here is to find a way to track your money that works for you. The steps below will help you create your own budget.
1. Calculating Net Income
To start creating an effective budget, you need to estimate your net income, or take-home pay.
Net income is your total wages or salary after taxes and employee benefits (such as 401(k) contributions, health insurance premiums) are deducted. In other words, it is the amount that comes into your bank account each pay period.
Be careful not to focus on your total pay. Doing so can lead to you thinking you have more money and overspending.
If you are a freelancer, gig worker, contractor, or self-employed person whose income is not accurate, make sure to keep detailed records of your contracts and paychecks.
2. Tracking your spending
Once you know how much money is coming in, the next step is to figure out where that money is going.
Tracking and categorizing your spending can help you determine where you’re spending the most money, and where you can easily save money. The more information you have, the better.
For a few weeks, record all of your daily expenses. Use whatever method works for you—a phone app, a budget spreadsheet, an online template, or paper and pencil.
Credit card and bank statements are a good place to start, as they detail your spending and often break it down into broad categories like utilities and entertainment.
Next, group together your fixed expenses. These are your regular monthly bills, such as rent or mortgage, utility bills, and car payments.
Next, list your variable expenses—things that vary from month to month, like groceries, gas, entertainment—and this is where you’ll find opportunities to cut back and save money.
3. Set Realistic Goals
Before you start sifting through the data, make a list of your short-term and long-term financial goals.
Short-term goals should be completed within one to three years, and can include things like building an emergency fund or paying off credit card debt. Long-term goals can take decades, such as saving for retirement or your child’s college education.
Many people struggle with whether to focus on paying off debt, saving, or investing. Our interactive tool can help you find the right balance for you.
Set specific goals and include them in your budget. Just as you set aside money for expenses, you should set aside money for these goals each month.
While goals may change over time, setting goals can help you stick to your budget. For example, if you know you’re saving for a vacation, It can be easier to reduce expenses.
4. Budgeting
This step is where it all comes together. You need to compare what you actually spend with what you want to spend.
Start with your take-home income. Based on the information you’ve gathered, organize your fixed and variable expenses into a systematic plan. Then, add in your savings goals.
This budget plan will help you see how your income and expenses match up. Where do you need to cut back to meet your needs or savings goals?
Consider setting specific and realistic spending limits for each type of expense.
5. Choosing a Budgeting Method
There is more than one way to implement your budget plan. The important thing is to choose the method that works for you.
The 50/30/20 Budgeting System
- Who is it for: Everyone. This method is a good starting point to start implementing your plan.
- How it works:
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- Separate your fixed and variable expenses into needs and wants. For example, if you drive a car every day, you need gas, but if you listen to music every month, you want it. This distinction is important when looking for ways to save money.
- Then divide your net income into three parts:
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- 50% for needs
- 30% for wants
- 20% for savings or paying off debt that is more than the minimum payment.
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You can adjust these percentages to suit your situation. For example, if you live in a city with high costs, you can spend more than 50% of your needs. Or, if you’re saving to buy a house, you can increase your savings.
Envelope Budget
- Who is it for: People who have trouble controlling their spending.
- How it works:
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- First, set aside an envelope for each of your spending categories.
- Each month, put the amount of money you budgeted for into each of those envelopes.
- When the money in the envelope runs out, stop spending on that category.
Paying with cash often helps people control their spending. However, if carrying cash is too much of a hassle, you can set up separate checking accounts for those categories and pay with debit cards.
Zero-Based Budgeting
- Who is it for: People who have a fixed monthly income and like to keep detailed records.
- How it works:
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- In this method, your expenses must equal your income.
- In other words, if you subtract your expenses from your income, you will end up with zero.
This zero does not mean that you have no money left at the end of the month. It means that every dollar of your income has a specific purpose, and you can explain every dollar you spend or save.
Pay-yourself-first Budget
- Who it’s for: People who want to save more, are confident they can cover their essential expenses, and want to avoid keeping detailed records.
- How it works:
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- Each month, before paying bills or making purchases, you put a predetermined amount into a savings account.
- Then, pay the bills that you need—rent or mortgage, groceries, utility bills, debt payments—to pay for your needs.
- You can use the rest of the money for your wants.
6. Adjust your spending to stay within your budget
Once you’ve recorded your income and expenses, you can make adjustments to help you save money for your goals and avoid overspending. Comparing your spending to other people’s spending can give you an idea of where you can save.
The first area to cut is your wants. Do you pay for both cable and streaming services? Do you eat out regularly?
Once you’ve adjusted your spending for your wants, take a closer look at your monthly payments. A “need” may be a “hard thing to give up.”
If the numbers still don’t add up, look at adjusting your fixed expenses. For example, could you save more money by finding a better rate on your car or homeowners insurance?
These decisions can involve big trade-offs, so be sure to carefully consider your options.
Remember, even small savings can add up to a lot of money. You might be surprised at how much extra income you can save by making one small adjustment at a time.
Also Read: How To Manage Money: Essential Strategies for Beginner
7. Review your budget regularly
Once you have set your budget, it is important to review it regularly with your expenses to make sure you are on track.
The information in your budget is not always static. You may have a raise, a change in expenses, or you may have reached a goal and want to set a new one.
Whatever the reason, follow the steps above and get into the habit of reviewing your budget regularly.
