If you want to control your spending and work toward your financial goals, you need a budget.
A personal or household budget is a summary that compares and tracks your income and expenses for a specific period, usually a month. While the word “budget” is often associated with limited spending, a budget does not have to be restrictive to be effective.
A budget will tell you how much money you expect to bring in, then compare that to your mandatory expenses – such as rent and utility bills – and your non-obligatory expenses, such as entertainment or dining out. Instead of viewing a budget as a negative, you can view it as a tool for achieving your financial goals.
What does a budget do?
A written, monthly budget is a financial planning tool that allows you to plan how much you will spend or save each month. It also allows you to track your spending habits.
A budget only works if you are honest about both your income and your expenses. To make an effective budget, you must be willing to work with detailed and accurate information about your earning and spending habits.
How to make a budget in six easy steps
Before you begin, gather all your financial obligations, including:
- Bank statement
- Investment accounts
- Recent utility bills
- Credit card bills
- Bills from the last three months
- Mortgage or auto loan statements
Calculate your income
How much income can you expect each month? If your income is in the form of a regular paycheck where taxes are deducted automatically, then using the net income amount (or take-home pay) is fine. If you are self-employed or have outside sources of income include them. Record this total income as a monthly amount.
Write a list of all the expenses you expect to incur during the month. This list may include:
- Mortgage payments or rent
- Car payments
- Municipal services
- Personal care
- Eating out
- Caring for children
- Shipping costs
- Student loans
Determine fixed and variable costs
Fixed expenses are those mandatory expenses that you pay the same amount for every time. Include items such as mortgage or rent payments, car payments, flat-rate internet service, and regular childcare. If you pay a standard credit card payment, include that amount and any other essential expenses that tend to stay the same from month to month. Variable expenses are the kind that will change from month to month, such as:
- Eating out
If you don’t have an emergency fund, include a category for “unexpected expenses” that may pop up during the month and disrupt your budget.
Start assigning a spending value to each category, starting with your fixed expenses. Then, estimate how much you’ll need to spend per month on variable expenses.
If you’re not sure how much you spend in each category, review the last two or three months of credit card or bank transactions to get a rough estimate.
Your total monthly income and expenses
If your income is higher than your expenses, you are off to a good start. This extra money means you can put funds towards areas of your budget, such as retirement savings or paying off debt. If you have more income than expenses, consider adopting the “50-30-20” budgeting philosophy. In a 50-30-20 budget, “needs,” or essential expenses, should represent half of your budget, necessities should make up another 30%, and savings and debt repayment should make up the last 20% of your budget.
If your expenses are more than your income, it means that you are spending too much and need to make some changes.
Make spending adjustments
If you are in a situation where expenses are higher than income, find areas in your variable expenses that you can cut.
How to use your budget
Once you have set your budget, you should monitor and continue to track your spending in each category, ideally every day of the month. The same budget spreadsheet or app used to make your budget can also be used to record your expenses and income amounts.
Keeping track of what you spend throughout the month will keep you from overspending and help you identify unnecessary expenses or problematic spending patterns. Take a few minutes each day to record your expenses, instead of putting them off until the end of the month.