Personal budgeting is an essential skill that allows you to take control of your finances and make smarter money decisions. However, creating and sticking to a budget can feel daunting, especially if you’ve never budgeted before.
This comprehensive guide aims to make budgeting understandable and non-intimidating for beginners. It covers:
- What is Budgeting and Why is it Important?
- How to Make a Budget: Basic Steps
- Budget Methods and Examples
- Tools to Make Budgeting Easier
- The 50/30/20 Budgeting Rule Explained
- Budgeting Mistakes to Avoid
- Frequently Asked Questions About Budgeting
Learning fundamental budgeting gives you the power to manage your money wisely, avoid overspending, and align your finances with both short and long-term savings goals. Let’s start by examining what budgeting entails and why it matters.
What is Budgeting and Why is it Important?
A budget is simply a plan for how you intend to spend and save money over a defined period of time, typically monthly or annually. The act of creating this spending plan is referred to as budgeting.
Budgeting essentially means:
- Adding up all of your income sources
- Adding up all of your expected expenses
- Making adjustments to expenses to align with income
The core purpose is to ensure you have enough money to comfortably cover necessary living expenses, financial obligations, and savings goals.
Budgeting is crucial because it:
- Prevents overspending and accumulation of debt
- Allows you to save and work towards financial goals
- Helps you live within your means
- Provides financial awareness and accountability
- Gives you control over where your money goes
Without a budget to guide spending, it’s easy to misuse income and have nothing leftover for priorities like an emergency fund, retirement, or vacation savings. A budget keeps your finances on track.
Now let’s look at how to create your first budget.
READ ALSO: The Top Budgeting Apps for 2023: Streamline Your Finances with the Best Apps
How to Make a Budget: Basic Steps
If you’ve never actively budgeted before, here are some steps to guide you in creating your initial household or personal monthly budget:
1. Calculate Total Monthly Income
Add up all predictable sources of income for the month after taxes and deductions:
- Gross wages/salary from job(s)
- Income from side businesses or freelancing
- Investment returns
- Government benefits
- Child support or alimony
- Retirement account distributions
- Any other recurring income
Tally all of the above to get your total income number. Be conservative and realistic – don’t include speculative income.
2. Make a List of Expenses
Next, inventory and add up all of your expenses over a typical month:
- Housing costs like rent/mortgage, property tax, insurance
- Debt payments on loans, credit cards, etc
- Utilities like electricity, water, internet, cell phone
- Groceries and household items
- Insurance costs like health, life, auto
- Transportation expenses such as fuel, public transit
- Child care, alimony, or dependent expenses
- Medical copays, prescriptions
- Entertainment, hobbies, subscriptions
- Personal care items
- Pet care costs
Aim for your list to be comprehensive – it’s easy to forget infrequent expenses that add up. Review past credit card statements and receipts if necessary.
3. Subtract Expenses from Income
Compare your total monthly expenses to your total monthly income. Ideally, your income number should be more than expenses. But don’t fret if expenses exceed income – that’s actually common.
The key is having both amounts visible so you can adapt your spending habits to live within your means. Which brings us to step four…
4. Make Adjustments to Align Spending with Income
If expenses exceed income, you’ll need to make cuts or changes to align spending with earnings. Common moves include:
- Reducing discretionary spending like dining out, entertainment, etc
- Calling service providers to lower monthly bills like cable, phone plans, insurance
- Paying off high interest debts to reduce interest costs
- Building additional income sources through promotion, side hustle, freelancing
- Revisiting needs versus wants and minimizing excessive purchases
Ideally you want income to exceed expenses, allowing savings. If that’s not possible yet, getting costs at or below earnings is the first milestone.
5. Factor In Savings Goals
Once you’ve balanced expenses with income, it’s time to incorporate savings goals. This includes:
- Emergency fund savings
- Retirement contributions
- Short-term goal savings like a house down payment
- College savings for kids
- Automated deposits into investment accounts
- Paying down debts faster than minimums
Ideally, 10-15% of monthly income should go to savings. Adjust expenses further if needed to make room.
6. Track and Revisit Monthly
Throughout the month, use a budget tracking app or spreadsheet to log actual spending versus your projections in each expense category. This allows you to spot overspending and make adjustments in real-time.
Finally, revisit income and expenses monthly. Make changes to your budget as needed based on learnings and any life changes. Consistently monitoring your budget is key.
That covers the basic process! For more details and examples, check out this step-by-step budgeting guide.
Next let’s look at different budgeting methods and templates.
Budget Methods and Examples
When establishing a household or personal budget, you can choose from several different approaches:
Basic Budgets
A basic budget simply lists expected monthly income, subtracts estimated expenses, and adjusts spending to direct leftover income towards savings goals.
This is easy to set up and provides a birds-eye view of your finances. However, it lacks detail on exactly where your money goes.
Line Item Budgets
A line item budget breaks expenses into more granular categories like groceries, mortgage, utilities, clothing, entertainment, etc. You assign projected amounts to spend in each specific area.
Line items help identify wasteful spending and gives you greater control over usage in each category. But creating so many line items can feel tedious.
Zero-Based Budgets
Unlike basic budgets, zero-based budgets assign every dollar of income to a specific spending purpose or savings goal. At the end of budgeting, the account balances hit zero.
This approach prevents any money going unaccounted for. However, it’s less flexible and may discourage savings in some cases.
Percentage Budgets
With a percentage budget, you assign set percentages of income towards expense and savings categories. For example:
- 55% to fixed costs like housing, insurance, debt payments
- 20% to variable spending like food, gas, leisure
- 15% to retirement savings
- 10% to an emergency fund
The percentages keep things balanced and minimize overspending in any one area. But they lack detail on actual amounts.
Pay Yourself First Budgets
This style prioritizes savings by funding investment and savings accounts immediately after receiving income. You budget expenses from what remains.
Automating transfers into savings makes it harder to skip or avoid. But you risk spending beyond earnings on flexible expenses.
Rolling Budgets
Rolling budgets forecast expenses over a set interval like 12 months, but specific amounts are adjustable month-to-month providing flexibility.
This accommodates fluctuating income and costs. However, you lose the rigidity of a defined monthly budget.
As you can see, each budget style has pros and cons. Often a combination works best. You may evolve from a basic to more advanced budget over time.
Budgeting Tools and Templates
Creating and managing budgets is much easier today thanks to digital tools and templates. Here are some options:
Spreadsheet Budget Templates
Desktop spreadsheet software like Excel offers free budget templates that calculate totals and provide basic expense tracking. Simply download a template and input your figures.
Budgeting Apps
Popular budgeting apps for your smartphone include Mint, YNAB (You Need a Budget), PocketGuard, and EveryDollar. These let you link accounts for centralized tracking and provide mobile access. Many have free versions.
Financial Accounting Software
Small business financial tools like Quickbooks and Xero can also facilitate personal budgeting with income/expense/savings categorization, reporting, and tracking.
Budget Calculators
Many financial institutions provide free online budget calculators. Enter your details and projected costs to receive a customized budget breakdown.
Account Budgeting
You can create simple budgets directly within checking and savings accounts. Most banks let you establish recurring transfers to savings goals and expense categories.
Spreadsheets
If going manual, a spreadsheet is one of the easiest ways to budget. Make different tabs for income, fixed costs, variable costs, and savings allocations. Sum month-end.
I recommend automating your budget as much as possible using a tool or software for convenience and consistency. But even a basic manual spreadsheet budget is far better than no budget at all.
Now let’s discuss one popular budgeting framework – the 50/30/20 rule.
The 50/30/20 Budgeting Rule Explained
A simple and effective budgeting guideline for beginners is the 50/30/20 rule:
- 50% of after-tax income covers needs like housing and bills
- 30% of after-tax income covers wants like dining, leisure, shopping
- 20% of after-tax income covers savings and debt repayment
This rule helps easily split spending in a way that ensures needs are covered, wants are moderated, and savings are prioritized.
Let’s walk through what types of expenses fall into each bucket:
50% Bucket: Needs
These non-negotiable expenses cover basic life necessities:
- Housing (rent/mortgage, property tax, insurance)
- Minimum debt payments
- Groceries and household supplies
- Utilities like electricity, water, gas
- Insurance (health, life, auto)
- Transportation like vehicle costs and fuel
- Childcare and tuition
- Alimony or child support
- Minimum loan and debt payments
- Basic clothing and essentials
30% Bucket: Wants
This section covers discretionary spending for non-essentials:
- Dining at restaurants
- Entertainment like movies, concerts, sports
- Cable TV and streaming services
- Hi-speed home internet
- Travel and vacations
- Gifts
- Club memberships
- Magazine/newspaper subscriptions
- Morning coffee and snacks
- Ride shares and taxis
Trim this category first if needs exceed income. Wants should expand only after covering needs and savings.
20% Bucket: Savings + Debt
The final 20% goes towards crucial financial priorities:
- Building an emergency fund
- Retirement contributions
- College savings for kids
- Bank savings account deposits
- Paying down high-interest debts faster than minimums
- Investing outside of retirement accounts
- Saving up for a house, car, or other big purchase
This bucket ensures you pay yourself first each month before spending on lesser priorities. Even 20% savings may not be enough for many people. In that case, adjust by reducing wants.
The 50/30/20 guideline provides a simple way to view and balance your budget. But you can adjust percentages based on your unique situation and savings objectives.
Now let’s look at common budgeting mistakes to avoid as a beginner.
Budgeting Mistakes to Avoid
Creating and sticking to a budget takes work, especially early on. Here are some common budgeting pitfalls to be mindful of:
- Not Making it Realistic: Your budget must align expenses with actual spending needs and patterns, not ideals. Track past spending to set realistic category amounts.
- Forgetting Hidden Costs: It’s easy to overlook irregular expenses like car maintenance, medical copays, HOA fees. Review past accounts to include everything.
- Not Budgeting for Emergencies: Failing to budget for the unexpected like job loss or car repairs can demolish savings if forced to fund emergencies by debt.
- Not Prioritizing Savings: Don’t put all extra funds towards wants. Pay yourself first each month by maxing company matches, funding IRAs, etc.
- Not Tracking Spending: Budgets require diligence to track where money actually goes using spending logs and apps. Don’t create and forget.
- Not Revisiting/Adjusting: Re-evaluate your budget monthly as income and expenses evolve. Budgeting works only if you actively use it.
- Not Involving Your Partner: Having a partner? Make sure to collaborate and communicate on the budget. Merge finances don’t mean going solo.
The hardest parts of budgeting are sticking to it diligently, tracking closely, and adjusting when life shifts. But with preparation and discipline, you can make budgeting work smoothly.
For more tips, here are 7 common budgeting mistakes to avoid.
Now let’s turn to some frequently asked questions on budgeting fundamentals.
To Recap
We hope this guide provided you with a strong introduction to budgeting basics. The key takeaway – budgeting is an essential skill that allows you to take control of your finances, prevent overspending, and achieve short and long-term money goals.
Use this guide as a reference to build your first budget. The hardest part is simply getting started! Be patient, stay organized, involve any partners, and revisit your budget often to keep it on track as your financial situation evolves.
Frequently Asked Budgeting Questions
Why is budgeting important?
Budgeting is crucial because it aligns your actual income and expenses, prevents overspending, helps you save, gives you financial awareness, and provides accountability and control over personal finances.
How do I start budgeting?
Start budgeting by listing all sources of income, accounting for all expenses based on past spending patterns and upcoming needs, adjusting discretionary expenses to match income, and allocating savings first before spending. Use a simple spreadsheet or budgeting app to track.
What percentage of income should go towards savings?
Ideally, at least 10-15% of your monthly take-home pay should go straight to savings accounts, retirement, and debt repayment. Some recommend saving 20-30% or more. Even small savings add up over time thanks to compound interest.
How do you create a budget?
Create a budget by totaling monthly income, listing line item expenses, subtracting expenses from income to identify any deficit, adjusting flexible spend in areas like dining out to eliminate overspending, and dedicating at least 10% of income to savings. Continue tracking and re-evaluating monthly.
What is a good budgeting app?
Some top-rated budgeting apps include Mint, YNAB, EveryDollar, PocketGuard, and Personal Capital. Features like linking accounts, phone notifications, customizable categories, and automated reporting make budgeting much simpler.
What percentage of income should go to housing?
A general guideline is to spend no more than 28-30% of gross monthly income on housing costs including rent/mortgage, taxes, insurance, and utilities. However, any amount that still allows you to comfortably cover other essential expenses and savings can work.
How often should you evaluate your budget?
Review your budget at least monthly to ensure projected expenses and income still align with reality. Re-evaluate spending categories quarterly and make any needed adjustments. Set periodic check-ins for annual big-picture budget evaluations to account for life changes.
What is a 50/30/20 budget?
This budget framework assigns 50% of after-tax income to necessities like housing, 30% to flexible “wants” like dining out, and 20% to savings and debt repayment. It’s an easy guideline, but you can adjust the percentages as needed for your situation.
What are the main components of a budget?
The four main components include income, fixed expenses, variable expenses, and savings. Add up expected income, assign estimated amounts to regular and discretionary costs, adjust spending to match earnings, and dedicate at least 10% of earnings to savings and debt goals.
