YouNeedABudget.com director of outreach Mark Butler gives three steps to establishing a budget.
"Track your expenses," said every financial guru who's ever posted on a blog or wrote a book. It's sound advice; keeping a record of what you spend is definitely better than not. Expense tracking is especially beneficial if you've never budgeted before. After years of blind spending, the simple act of recording the outflow raises financial awareness and inspires more thoughtful spending habits.
The problem comes when tracking expenses becomes routine (or automatic, thanks to free online tools). The early buzz of knowing where all your dollars go begins to wane. You slide back into your old spending habits in spite of your carefully maintained transaction history. That's why it's crucial to understand the difference between expense tracking and real budgeting. Expense tracking tells you where your money went; budgeting tells your dollars where to go.
One is reactive and backward-looking, while the other puts you in the driver's seat, focused on the present and future. If you've been a steady expense tracker, pat yourself on the back. It's an excellent habit. Then use your discipline and your transaction history to develop a real budget that puts you in charge of your dollars.
Step 1: Use your detailed transaction history to get an idea of how much you spend in each area of your life. These are your budget categories, and your spending records give you a reasonable guess at how much of each paycheck you need to assign to each "job" in the budget.
Step 2: Identify your most important financial goal and give it a prominent place in your budget. Decide how much of each paycheck you'd like to assign to the goal.
Step 3: Every time you get paid, assign dollars to your biggest goal first, then divide the remainder among your other needs and wants.
It's a simple process that creates powerful, unexpected results: By maintaining a budget in which you've assigned all available dollars to your needs, wants and goals, you're able to see how they compete with each other (for example, how new clothes delay your European vacation).
Once you see that reducing spending in one area of your budget frees up cash for other goals, your total spending shifts into alignment with your real values. It feels like magic; many new budgeters report feeling like they got a raise. All because they put all their needs, wants and goals in front of them and made careful decisions about how many dollars each "budget job" deserved. And that's why you want to make the transition from a backward-looking expense tracker to a forward-looking budgeter. Your goals will thank you.
Mark Butler is the director of outreach for YouNeedABudget.com.