Today we will talk a little more in-depth about one of the first steps to financial planning, developing a household budget Hopefully, this will help to get 2018 off on the right foot financially. First, let’s not call it a budget. Budget is a word with somewhat negative connotations. It sounds like making a sacrifice. Instead, let’s call it a saving and spending plan or cash flow management plan. In reality, it is an element of our overall financial plan that will help us to stay on track week to week and month to month as we work towards achieving our long-term goals.
Budgeting, or saving and spending planning, is for everyone, not just those struggling to make ends meet from payday to payday. Even high income earners benefit from the structure a plan provides. Without a plan, it is very easy to overspend. Excess spending comes at the expense of saving, or worse, in the form of additional debt. In either case, overspending will derail the realization of your goals.
Building wealth and financial security and independence really come down to one thing: spending less than you earn. It really is that simple. However, this is difficult to do in our society, and particularly difficult to do if you don’t know how much you’re spending and what you are spending it on. This is the entire purpose of the plan.
Trying to achieve your financial goals without a budget is like trying to drive a car without a steering wheel. Last week we talked about putting together a new worth statement and goals. Now you are going to prioritize your goals and figure out how much to save, how much to use to pay off debt, and how much you have left over to spend. If you don’t have enough to meet your goals, you will need to either adjust the amount you spend or the goal.
In putting this plan together, pick a method that suits you and your personality. Some people set up systems to keep track down to the penny, while others prefer more broad guidelines. In either case, first set aside funds for your savings goals and to pay off debt. Next, set aside the money you’ll need for your major expenditures like mortgage payment or rent, insurance, and groceries. What’s leftover is what you can spend on the little stuff. Make sure you pay your priorities first. This way, there’s no chance you’ll overspend on the more frivolous things in your budget. Even if you are not a person who wants to keep track of expenses down to the penny, it can be helpful to track them pretty closely at the beginning of the process. Most households don’t have a clue how much they are spending. This process can also help to identify where funds can be saved. Track the cash that you spend. Get a receipt or write down all cash purchases. You’ll be surprised how much disappears down the black hole of small cash purchases.
One effective way to save for goals is set up sub-accounts. A single large account can make it difficult to keep track of your progress toward long term goals. Having a separate account for vacation savings or Christmas money will make it easier to keep track. You can make it easier on yourself by automating your contributions to these subaccounts each month. You can also automate the contributions you make to your IRA and 529 plans. It also makes sense to automate all your fixed expenses such as mortgage or rent, auto loans, student loans, and utility bills.
Check your progress and look for signs that your plan is working, such as your savings increasing and your debt decreasing. Revisit your net worth statement each year and make sure it is growing year by year.
It’s ok to overspend from time to time. It’s not the end of the world. The important thing is to get back on track as soon as you can.
For more information, you can listen to the podcast of Smart Money Management radio show on this topic, along with others, at www.alderferbergen.com.
The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual.
Securities and Advisory services offered through LPL Financial, a registered investment advisor. Member FINRA/SIPC.