Familia, here’s the dreaded word: “budgeting” or like we say at home contando chavitos. Now, although the idea of looking at our complete financial picture might seem like watching a bad horror film, the end of the process usually results in empowerment, just like in kids flicks. Think of it this way – setting up a budget ensures that we’ll have sufficient funds for the animated children film and family outing- pricey popcorn and soda included- plus all of the things we consider to be important.
Setting up a budget helps us take control of your financial life, so that we can consciously cut back in certain areas, and manage any overspending.
Here’s a step-by-step process for setting up a budget that will keep us on track.
Identify How You Spend Money
Horror film spoiler alert! We must first determine how much money we’re earning each month, and looping in your partner (if applicable) for a complete financial picture. Ok, maybe is just a telenovela.
In all seriousness, ideally all monthly spending (and saving/other financial goals) won’t exceed your income for the month. So once you’ve set this spending limit, it’s time to start looking at your spending categories, and current spending trends in each one. Mint and YNAB (You Need A Budget) are money management apps that can help. Once configured by connecting accounts and categorizing transactions, you’ll be able to visualize your spending data over time. We’ve also created a budgeting worksheet to help you come up with your initial budget.
Once you have a general idea of spending, think about the ideal breakdown of where your money should go each month. We know sometimes it’s hard, but focus on your family visit!
Mint shares the idea of the 50/30/20 rule, which states that:
- 50% of your money should be spent on “essentials,” which includes categories like housing, food, transportation costs and utility bills.
- 30% of your money can be spent in personal spending categories, which might also be viewed as “unnecessary” expenses that make your life more enjoyable/better in some way. Though we might see them as “necessary,” expenses like our cell phone and cable bill would fall into this category. It’s easiest to affect spending in this category, as essentials are hard to change, and savings (discussed next) should not be compromised.
- 20% of your money should be funneled towards savings, or other categories that Mint defines as, “getting ahead.” For example, besides typical savings goals, make sure that some of this money is also funneled into retirement accounts.
Take a look at your existing spending using a budgeting app or a prefered method that can provide you with a realistic summary. Are there areas where you could definitely be cutting back? And does your spending fit into the 50/30/20 breakdown, or are there major imbalances to consider?
Set Budget Goals
How many of us have tried to lose weight? Yes, we set a goal and then we go into the diet and exercise regimen. Truth is, setting goals is the secret to success for any facet in life. But the way we structure a goal is perhaps even more important than the goal itself. Now we know why the weight is still on! SMART goals are specific, measurable, achievable, realistic, and time-based.
When setting budget goals, keep the SMART method in mind. Instead of the vague goal, “I will save for retirement,” try, “Starting now, I will automatically transfer $100 into my retirement account at Schwab.” By defining a budget goal with this level of detail, it is much easier to act on. And by creating actionable budget goals, you’ll have more motivation to create a budget and save money.
According to personal finance expert John Egan, “Setting budgetary goals is one of the keys to saving money for a house, a car, a vacation or other big expenses. If you’re one of the roughly two-thirds of Americans who don’t keep a household budget, then it’s hard to know how much you’re spending and how much you’ve got left for something like a house, car or vacation. Living without a household budget is like driving in a strange place without a map; in both cases, you’re likely to get lost.”
You can set one goal at a time, or have many operating at once. The most important thing is to get started and get in the habit of saving and budgeting. Besides the retirement savings goal mentioned above, here are a few additional budget goals to consider:
- Saving a certain amount each month for a house downpayment
- …Or a car
- Cutting a certain monetary amount from your budget each month
- Saving for vacation, or another fun goal
For savings, it’s most ideal to create automatic transfers to savings and retirement accounts. It’s much easier to put it off if you’re physically initiating the transaction. Out of sight, out of mind seems to be the best rule of thumb for savings success.
Decide Where to Cut Spending
As a best practice, once you’ve spent your budget in a certain category for the month (like dining out), you should cease spending in that category until the budget resets in the next month. Easier said than done, but a good habit to get into from a personal finance standpoint. According personal finance expert John Egan, “Setting budgetary goals is one of the keys to saving money for a house, a car, a vacation or other big expenses. If you’re one of the roughly two-thirds of Americans who don’t keep a household budget, then it’s hard to know how much you’re spending and how much you’ve got left for something like a house, car or vacation. Living without a household budget is like driving in a strange place without a map; in both cases, you’re likely to get lost.”
Either on your own, or through a budgeting app, determine which categories you’re most prone to overspending. Once you’re aware of your weaknesses, it’s easier to coach yourself to avoid overspending in the category.
Spending on essentials (like rent and utilities) is more or less set in stone. Most, if not all, budget management apps will allow you to set “budgets” for all of these things, which will alert you if for some reason you’re going over in a month.
For personal spending categories, be honest with yourself. How much do you spend on various monthly payments, like a cell phone bill or gym membership? For other categories that don’t have a set fee, estimate. For example, how much do you spend on entertainment in a given month – going to the movies or seeing a concert? How about personal care, like getting a haircut or purchasing beauty products? You can set a budget for each individual category on most budgeting apps, which will alert you if you’re overspending.
Adjust Your Spending Habits
This is the hardest part! Take a minute to acknowledge that adjusting your spending isn’t easy, but also be aware of the benefits that come along with being more purposeful about setting a budget. As you start to cut spending, and prioritize savings goals, feel free to reward yourself in a small way. You deserve it!
For typically high spending categories, like entertainment and shopping, try to find free or lower-cost alternatives. For example, instead of going out to eat with a friend, invite them over for dinner at home. Instead of going to a movie, catch a free yoga class. You might even find that you find a new hobby or passion by trying new things!
We’ve created a budget worksheet to help with some of the heavy lifting of setting up a budget. Download and fill it out!
For you, what’s the hardest part of setting up a budget? We’d love to read your thoughts in the comments!