How to Create a Simple Budget
Having a budget is the second layer of any successful personal finance management plan.
When creating a plan for how you are going to manage your money, first you should outline your goals - establishing the “why” behind what you are doing. Secondly, you should create a budget.
In short, a budget is a document that outlines your income, expenses, and monthly margin.
If you enjoy listening to podcasts, give the podcast episode we published on Budgeting a listen.
Your Budget is used a roadmap to track how much money is hitting your bank account, how much money is leaving your bank account, and how much money you have at the end of the month left over. I call that number your margin, and it is very important as this is the money you are going to use to achieve the goals you have set for yourself.
This document is your accountability partner. If you know that your income every month is $2,000 and your expenses are $1,500 a month, you know you should have $500 every month to use as a tool to achieve the things that are important to you. Some examples of these things could be investing, building your emergency fund, or savings for a house. With this in mind, what happens when at the end of the month you only have $50 in margin? You know that something went wrong. You are able to look into your spending and compare it to what you outlined in your budget. This is accountability, and these guardrails will help you achieve sustained success.
Your budget will be ever-evolving. Maybe you get a raise at work. You will need to adjust your income and you also may choose to change your expenses. Maybe you want to add a streaming subscription to your monthly expenses, or maybe you want to increase the amount of money you are allocating to eating out each month. Maybe your significant other has a birthday and in your budget, you want to allocate money to buy them a gift.
It is important to review your budget every month to account for these changes. It is also important to review your budget to make sure you are staying on track. If you allocate $500 a month for groceries you need to make sure are sticking to that. It is very easy to overspend on things like groceries or fun money, so reviewing your budget will help you stay on track.
So how to you create a simple budget? Below are the steps I recommend taking. The images referenced are from the Budget and Finance Spreadsheet we have built here at Millennial Economics. This is the spreadsheet I personally use to manage my money.
Establish Your Monthly Income
First, you should establish your monthly income. This is the money you have available to pay for your expenses. I recommend using your after-tax income - the money that actually hits your bank account each month. I also recommend using the dollar amount after any deductions that come out of your paycheck. These deductions could include your 401k contributions and your health insurance premiums. In our example above, this number is $4,500.
2. Establish Your Monthly Expenses
After establishing your Income, you need to determine your monthly expenses. I recommend using a prebuilt budget spreadsheet that has expense categories listed for you. You may need to add to these categories, but when you are able to work from a prebuilt list it helps ensure you won’t miss a category. List out what you pay for each category or what you would like to allocate to a category moving forward.
One category I would like to point out is the “Fun Money” category. I have found it very important to allocate money every month to spend on whatever you would like,and this amount will vary depending on where you are in your financial journey. For beginners that are early in their journey, this number might be small because you are focusing on paying down debt and building an emergency fund. For the people further along that have a fully funded emergency fund, are debt free, and are investing regularly, this category may have a larger allocation. Wherever you are in your journey, the principle remains the same. It is important to allocate some of your income to the Fun Money category. If you don’t, you will find yourself getting burned out, wanting to throw away your budget completely and abandon the plan you have in place which will set you back much further than simply allocating a reasonable amount to fun money every month.
3. Calculate Your Monthly Margin
After you have established your Income and Monthly Expenses, you are able to calculate your Monthly Margin. This monthly margin is the money you are going to use as a tool to accomplish the goals you have set for yourself! This is when managing your money becomes fun! Our Budget and Finance Spreadsheet will calculate this amount automatically for you.
4. Decide What You Are Going To Do With Your Monthly Margin
Lastly, once your Monthly Margin is established you need to reference your goals and see how you can use this money as a tool to accomplish those goals. Maybe you use 50% of your monthly margin to save for a home purchase and you use the other half to invest in your personal brokerage account. Maybe you are still getting out of debt and you use 100% of your monthly margin to pay down the credit card balances you have. You can also use your monthly margin to estimate when you are going to be debt free. If your monthly margin is $100 and you have $1,000 in debt, you know that it will take you ten months to pay that debt off.
I hope this article has shown you how to create a simple budget for yourself! Mastering this will set you on the right path to becoming financially fit!