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This is the third part in a series on Creating a Better Budget

The first installment of the Better Budget series set a foundation of clearly defined financial goals.  In part 2 of the Better Budget series we established the categories we need to track.  Now we are going to get to work on the amounts to budget for each category.

Better Budget Step #3 – Establish Budget Amounts

Most budgeting advice I have heard starts with you tracking every penny you spend for a month or two.  After doing so, you sit down and total up the amounts and use that as your starting point.  This is a perfectly viable way to get started, but instead I choose to jump right in and start with a budget day one.  We will refine the amounts in the future.   So grab some paper and lets get started.

In order to come up with our initial budget amounts, we need to gather whatever information may help you make the best guess possible for each category, such as:

  • Bills and invoices
  • Credit card and bank statements (or online transaction history)
  • Check book register
  • Receipts
  • Prior budgets

For many categories, this information is going to get you most of the way there – for example your housing category is probably very straight forward and consistent from month to month.  Other categories are going to take a little more work.  Typically Food, Clothing, Entertainment, and possibly Utilities and Transportation are the tougher ones as they may vary greatly month to month.  Take a stab at it anyway.

Now lets fine tune your first pass amounts using the following budget guidelines (percentages are of net income after taxes):

  • Housing = 25% – 30%
  • Food = 10% – 15%
  • Utilities = 5% – 10%
  • Transportation = 10% – 20%
  • Medical / Health = 5% – 10%
  • Clothing = 5%
  • Savings = 10% minimum
  • Debt = 15% minimum
  • Charity = 10%

Please note that these are just general guidelines that are based on my observations and experience.  Everyone’s situation is different so adjustments are expected but if you find yourself way out of a range, put some thought to what can be done about fixing that.

Another resource is provided by Dave Ramsey, personal finance and getting-out-of-debt guru.  He has created an online budgeting tool that lets you plug in your income and it applies his recommended percentages to give you a starting budget you can then adjust.

Lastly, if you want to go data CRAZY, then check out the latest consumer spending data from the Bureau of Labor Statistics.  There are several tables that show spending data in various ways (by income, family size, etc).  I find the tables by “Income Before Taxes” to be very useful.

The goal of this step is not to get it exactly right, but to get started with something.  We will fine tune our budget going forward.

Step #3: Estimate Your Spending Amounts by Category.

Stay tuned for Part 4 of the series where we will talk about tracking your spending and maintaining your budget.

 

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This is the second part in a series on Creating a Better Budget

The first installment of the Better Budget series set a foundation of clearly defined financial goals.  Upon this foundation we can then begin developing a better budget.  In this part of the series, we will define what should be tracked within your budget, and to what level of detail.

Better Budget Step #2 – Define Your Expense Categories

The key thing we need to get down on paper in this step are the expense categories you are going to track.  There is as much art as science in this step.  At a minimum, I suggest the following categories for your budget:

  • Housing (this includes mortgage / rent, insurance, taxes, maintenance, association fees, etc)
  • Food (groceries and eating out)
  • Utilities
  • Transportation (car payments, insurance, auto replacement fund, fuel, maintenance, etc)
  • Medical / Health (insurance, co-pays, prescriptions, etc)
  • Clothing
  • Savings
  • Debt (not counting mortgage and auto payments)
  • Charity

Less Is More

If you are a data nut like me, you are probably starting to get a little squirmy right about now.  After all, you can’t create just one transportation category!  No, no, no…  you need to at least break out fuel, payments, insurance, and maintenance.  And Housing?  No way – you need at least 6 categories…   OK – take a deep breath and relax.  Too much detail is what kills many a budget.

If you have been budgeting for a long time in great detail and it is working for you, then great!  keep doing what you are doing.  If you are new to budgeting, or what you have been doing has not been working for you, than go with the fewest number of categories you an get away with.  Here are the reasons you may need to add more categories:

  1. You have expenses not covered by these categories given your specific situation.  Possibly you have school aged kids and need to have a “kid’s activities” category, or a “college fund” category, or alimony, or whatever.
  2. There is a specific area within a category that is inordinately high.  For example, you are freshly graduated from med school and have a crushing student loan balance.  You may want to separate that out from the rest of the “debt” category.
  3. There is an area within a category that is highly variable – possibly fuel if you have to travel by car for your job some months.  In that case, it may make sense to break out fuel into its own category.
  4. What are your “trouble spots”?  If there are areas that you struggle keeping in check then you will probably want to track them in more detail.  Let’s say that you always go way over the Food category.  It may be worth breaking down groceries from eating out in order to isolate the real problem.
  5. It is related to a financial goal.  If you have a financial goal of “getting out of debt” then you are likely going to want to track much more detail under the debt category.

The bottom line is to keep the list as small as feasible.  Do not over analyze this, you can always further break down a category later.

Now go.  Scurry off and put pen to paper and write down the key categories you need to track to keep your financial ship on course.

Step #2: Define Your Expense Categories.

Stay tuned for Part 3 of the series where we will establish the amounts for each category.

 

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Dow 13,000!

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