Budgeting doesn't rank high on the list of "fun" things to do. In fact, many find the idea of sitting down to calculate all of your fiscal expenses daunting and choose to avoid the experience all together. This is especially true if you are new to reining in your spending and want an easy entry point.
While it would be nice for you to simply know down to the penny where all of your money is going with no effort, you absolutely will not be able to without taking time to look at and keep track of your finances. Here are five tiny steps to help you think about budgeting to help you make better financial decisions every month.
STEP 1: Find out how much money you make.
Sometimes you have a ballpark figure of how much you make monthly, but it is important for you to ensure that you understand what your take-home pay is after taxes, after retirement allocations, child support payment, alimony, etc.
STEP 2: Break down your monthly financial decisions into three categories.
Sort your monthly expenses into three categories: needs, wants, and savings. When you do it this way, the visual alone will show you where the majority of your money is going. To maximize this system, you have to be honest and clear about the definition of a “need” vs. a “want.” An example of a need is food. On the other hand, an example of a want is eating out every week.
Next, figure out how much you're allocated to each category. For example, if your take home pay is $3,000, your fixed expenses (needs) $1600 and your variable expenses (wants) are $800, then you'll be able to determine how much money you have left for savings. This knowledge will also help you make adjustments, and hopefully line your pockets a bit more.
STEP 3: Identify two low-cost “wants” that can be easily translated into monthly savings.
Identify areas that can easily be trimmed down. For example, if you noticed that you spend $60 a month on your nails and $100 per month on clothes, those are two areas that you can scale back on discipline and awareness. Commit to saving at least 50% ($80) of the total amount for savings this month and work your way to saving 100% of this money next month. My recommendation is that you set up automatic withdrawals for this to work. Repeat this process until all unnecessary wants are either trimmed down or completely translated into savings.
STEP 4: Identify one “need” that could be reduced and easily translated into monthly savings.
Are you renting a really expensive apartment that you can’t really afford? Are you shopping strategically for food? Since cell phones are almost a necessity in the 21st century, how can you reduce your data plan, switch over to prepaid, or a less expensive service provider? Considering alternative ways to obtain needs is one of the best ways to increase your budget.
STEP 5: Continue to use this system until the ratio of needs, wants, and savings is 50:30:20.
Financial freedom is a process, so don’t beat yourself up as you work towards your financial goals. The 50:30:20 rule is an ideal goal for a healthy budget. Fifty percent of your monthly income goes towards your needs, thirty percent goes towards your wants, and twenty percent goes towards your savings and investments.