You’re finally there, ready to make a budget, pay off your debts and save some money. Where do you start? There are so many different types of budgets and opinions that it’s hard to make heads or tails of it all. Let’s take a minute to break it down simply:
Determine Your Goals
Before starting any budget, ask yourself what your goals are. If you have debts, of course, you want to pay them off. However, look further. Once your debts are paid, what do you want to do with the extra money? Are you planning to buy a house?
Do you have a dream destination where you would like to go with your family? That sports car you’ve been eyeing for years, how about having it in your garage? These are all long-term goals, goals that will motivate you to stick to your budget.
Go one step further and frame a picture of your dream home, dream car, or dream travel destination and keep it close at hand. Allow yourself to dream, and remember that you are working towards that goal.
Evaluate Your Current Situation
Next, you need to evaluate your current situation. What is your income? How much do you owe? How is your credit score?
Determine your short-term goals, like building up your credit and paying off debts. Which debt will you pay first? The smallest, or the one with the highest interest rate? Choose whichever order that motivates you most.
Now start making your budget. Don’t stress out about it. For a month or two, just keep track of all your forms of income and expenses. You can do it the old fashion way; on a piece of paper, or you can use a spreadsheet or one of the many budgeting tools that are found online.
Fine Tune Your Budget
After one or two months, you should have a pretty good idea of where your money is going. The objective is to earn more than you spend. If that isn’t your case, you need to analyze your spending habits to see where you can cut. Try cutting down on expenses such as restaurants; whether it’s your morning coffee, your lunch break or dinner with the family.
With the budget you already have on hand, calculate how much money you spend eating out each month and multiply it by twelve. The result is usually enough to motivate you to cut expenses in that area.
Make a list of all necessary expenses like rent, transportation, groceries, utilities and the minimum monthly payments on your debts. Subtract that amount from your monthly income. What is left is your extra money for the month.
Where you choose to spend it is entirely up to you. The wise way to spend it is putting part of it towards repaying your debts, part of it in a savings account and the rest to spend as you like. This is where choosing the type of budget you use comes in.
Choose a Type of Budget
Different types of budgets can help you determine what percentage of your income should go where. Here are quick descriptions of three types of budgets:
The envelope budget is a very basic type of budget. You use cash to pay your expenses and put it in different envelopes, each labelled for the bill it pays. On each payday, you take out the money necessary for your bills and expenses until your next payday and put it in your envelopes. For example, you can have an envelope labelled “rent,” another named “groceries,” one labelled “gas” and the next one “restaurants.”
If you run out of money from your “groceries” envelope, you can always dip into your “restaurants” envelope. Transfer a certain amount in your savings account each payday and don’t forget to put some money towards debt repayment. You pretty much decide how much you put aside every month.
The 5-category budget is a bit more complicated, but once you get the hang of it, it’s pretty simple. Your income is split into five categories, each determined by a certain percentage. Each category goes towards paying a specific type of expense.
The following is a list of life’s expenses and their recommended percentages:
- 35%: Housing (rent or mortgage)
- 15%: Transportation (car payments, gas,and public transit fares)
- 25%: Living expenses (utilities, groceries, insurance, minimum payment on debts, and wants)
- 10%: Savings
- 15%: Debt repayment (extra payments made on debts)
The 50-30-20 budget is similar to the 5-category budget, but it gives you a bit more leeway. Here is the list of percentages and what they pay:
- 50%: “Needs” (housing, utilities, groceries, transportation, insurance, minimum debt payments)
- 30%: “Wants” (non-essential expenses like cable, gym membership and restaurants)
- 20%: Savings and debt repayment (extra payments made on debts)
Budgets in Short
Look at the different types of budgets and try them out. Use the one that fits your lifestyle best.
You need the necessities to live, so they’re your top priority when you get your paycheck.
If you only make the minimum payments on your debts, you pay a lot of interest, and the debt drags on almost indefinitely. By making more significant payments, you clear the debt faster and save on interest.
You must put money aside in a savings account; this is what will bring you to your final goal. Remember that dream house, car and travel destination? Those are the reasons for your savings.
Any non-essential expenses are paid with whatever is left after everything else has been dealt with. The name says it; they’re non-essential, so you can do without. The more you cut on these expenses, the faster you pay off your debts and reach your final goal.
Dealing with Emergencies
Let’s say your budget is established and everything is going smoothly. Suddenly, your car breaks down. Something big. It will cost a lot of money. That wasn’t planned in your budget. What can you do?
Ideally, you should be able to turn to your savings. Some have two savings accounts;one working towards their goal, and one for emergencies only. Others keep everything in one account and dip in it in case of an emergency.
In the case where you didn’t have time to save up enough to cover the unexpected expense, what are your options? If you have a good credit score, you can ask for a loan, line of credit or credit card from your bank. Depending on your situation, they can offer you a solution at a fair interest rate.
If your credit score is low and your bank refuses to lend you money, there are other types of financing. Online loans and payday loans normally have high interest rates, but for some, they are the only solution available. They’re small, short-term loans, so money will be tight for three to four months, the time it takes to repay the loan, then things will get back to normal.
Stay on Track
The important thing with budgeting your money is to stick to it. Unexpected things do happen. Deal with it, then get back on track. Only by doing that will you be able to take a spin in your sports car, come home to your beautiful house, and bring your family on that long-awaited trip to Europe. Always keep your goals in mind, close at hand. They will motivate you while you make your budget and will help you to stay on track.