Hi everyone, this week I am going to cover the importance of drawing up and sticking to a budget. This is the next step that I personally took, when I was trying to get my finances on track. It is very simple and very rewarding process in terms of achieving your financial goals.
If you have read last week’s blog, you should now know the importance of keeping track of your financial comings and goings (Financial Log). However, this step alone is not enough. This is only the first step of the recover process. Once you have kept track of your expenses for a period of time the next step is to study and understand your spending habits. This is very important. For example, in my own case after I tracked my expenses for a period of one month, I noticed that I was spending a lot of money on food (take-aways, coffees, donuts etc.), car (fuel, maintenance etc.), utilities & bills (rent, electricity, gas etc.) and sport (gym membership, soccer fees, gym clothes etc.) as well as other small random things (Miscellaneous). Therefore, I decided to breakdown all of my expenses into these 5 categories (more on this later in the blog). There are several advantages to this:
- You can manage your expenses much better when they are broken down into 5 different categories
- You can deal with one category at the time when trying to cut down on costs
- Helps you understand how much money is going into a particular category
- It helps you to draft a concise and accurate budget plan
The last benefit of keeping a Financial Log is where this week’s blog is heading towards – Budgeting. I am sure all of you are familiar with some sort of a budgeting method. Governments, companies, households etc. all use some type of a budgeting system to forecast their financial status. So if most companies, households and governments are using some sort of a budget system, what makes you so special? A budget can be drafted for any type of cash flows. Personal budgets are very important on the road to financial recovery.
Now this is where the “Categories” system comes in. By separating your expenses into 5/6 different categories, the next step is to allocate a sum of money that you think you will spend on this category in the coming month. (I draft my budget on a monthly basis as I find it easier to manage, however, budgets can be drafted on a weekly basis also if you find this works for you). I draft my budgets on my beloved Excel. However, I first scribble down my estimations for the coming month on a piece of paper after some serious thought, before committing to excel file (I sound very dramatic, I know). Again, if you don’t like Excel or cannot use excel you can always stick to your piece of paper, notebook, phone etc. As long as you are happy with your method of keeping record of your budget then that is the method that is perfect for you. Shown below is an example of a typical Budget layout, categories and method that I personally use (Although figures are inaccurate as this was only used for demonstration).
The steps to take when drafting your own budget are described below to help anyone out with starting out:
- Compress all of your expenses into 5-6 categories (you can have more than 5/6, but no more than 8. The more categories you have the harder it is to manage)
- Stick that kettle on and lets dive in.
- Under each category write down all of the expenses that you think you may have in the coming month. Make sure to spend some time completing this step. You need to try and think of every possible expense with an estimated value of such expense for every category.
- Just in case you add additional small sum of money to every category in order to cover any unplanned expenses. (i.e. you predicted you going to spend €500 on groceries in the coming month, now add another €50 on top of that estimation and that will give you some breathing room if any unplanned expenses pop up)
- Tally up all your predicted expenses for each category and input them into your excel file ( I keep my Financial Log and Budget breakdown all in one Excel file, makes it easier to manage all of my financial needs in one place. You can either keep it all on one Sheet in Excel or add a separate sheet for better organisation).
- Before you put your laptop away and pat yourself on the back for a job well done, consider your income for the coming month. There is no point planning total expenses to a tune of €2,500 if your income is €800 (Extreme example, I know, but you get the point). If your projected expenses go beyond your projected income, then you need to trim your budget down to bare essentials in order to stay within your financial means. Cut down on coffees, take-aways etc.
- The last step is the most important one – STICK TO YOUR BUDGET. No point spending time and effort drafting a very pretty budget if you just going to ignore it. Be realistic in your estimations and be honest in your predictions. Refer to your Financial Log in order to help you plan for the coming month
Using my financial log at the end of the month I add up all my expenses and populate my totals into my well drafter Budget (if I say so myself) for each category and see if I was able to stick to y predicted total. Some months I would spend more and some months I would spend less than my predicted amount, but recently I have gotten so good with my budget that I am only every €5-€10 over or under at the end of the month for each category. This is also partly due to the fact that I learn from the mistakes I have made every month and keep them in mind when drafting my next months budget. It will take time to master the budget side of things but, I think its one of the most vital steps you can take in order to get your finances back on track.
The main thing when it comes to budgeting is to be honest with yourself. If you don’t reach your “unrealistic” budget goals at the end of the month just because you put yourself under pressure for the sake of your Excel file looking pretty, then this will result in you being frustrated, angry and discouraged. Soon you will feel that you are going nowhere and not progressing and this whole “I WILL get my finances on track” attitude will be thrown out the window. We don’t want that. We love progress and we love achieving goals. So set a realistic goal for yourself and stick to it. You will feel (although my not have) like a million dollars when all your categories are balanced at the end of the month and you have some extra cash in your pocket.
Now you may be confused as to how you can accurately predict your expenses a month in advance. Well this is where your “Financial Log” becomes your star player. By tracking your expenses for a period of one month you should have a fair idea as to what expenses you think you will have for the coming month. Of course, expenses fluctuated from month to month and it is hard to predict with 100% accuracy, but you should be able to predict it with 85-90% accuracy if you are honest with yourself and keep your financial log up to date.
Having a well thought out and well drafted budget allows you to plan ahead in terms of expenses as well as plan ahead in terms of how much money you should have saved in the coming month and this money can be put towards pension, health insurance, holidays, college, that Gucci Bag you always wanted or whatever else your heart desires. Budget is your window into you future financial status. Starting off it may be a little bit difficult to stick to your budget, but that is completely normal. It will take time to perfect your ability to draft and stick to a budget. Money managent does require time and effort but that time and effort make you feel like this:
The fact of the matter is, you will never master your budgeting skills unless you put pen to paper and start. Starting off is always the hardest part. If you are a serious about managing your money, you will find the time in your day to sit down and draft a proper budget. There is no point rushing or fooling yourself doing this. Remember, no one else benefit or suffers from your decisions but YOU. If you care about your financial future, open that notebook/Excel/Phone etc. and start scribbling down.
That’s all for this week folks. If you have any questions on the blog or anything else in the world of finance, please feel free to engage in the conversation with other readers and myself via the comment section. You can also follow me on twitter (@McevoyVadim) for some additional financial tips and tricks. In addition, you can contact me personally via my email firstname.lastname@example.org.
Thanks for reading, I welcome any feedback and talk to you guys on the next one.