When I hear the word budget, what first comes to mind is a long spreadsheet showing colums of expenses, debts, and income, showing where every penny is going and how it is being spent. I also think of things like balancing a check book and spending hours each month worrying about how all of your money is being allocated. While many people do follow a system like this I do the complete opposite. It may be that I don’t budget like this because I am lazy but I think it mostly has to do with the fact that I just like things to be simple. I have no desire to spend hours of my time figuring out all of my bills and creating excel documents to track my expenses.
So how do I budget my money?
I use the tactic of paying myself first. When you pay yourself first, you determine what your expenses are and then dedicate a fixed amount to be directly withdrawn from you bank account and invested each month. For example, if I have an annual income of $50,000 and I know I want to max out my 401k and Roth IRA, I will need to save $25,000 per year. Because I know in my head that I will need to save that $25,000 per year, I will have it automatically withdrawn from my pay check and bank account and act as if that money was never even there in the first place. Knowing that I have now maxed out those accounts and saved 50% of my income, I can now spend the remaining $25,000 in any way that I want without having to worry about where every dollar is going. This is a nice guilt free way of being able to spend your money. If you want to go out to eat, take a vacation, buy a new computer or game console, or indulge in some type of activity that you enjoy, you can now do it as long as it fits within that $25,000 per year you have remaining. This takes all of the guessing work out of the equation and removes the stress of having a strict budget.
What paying yourself first will force you to do in return is find ways to lower your expenses so that you will have more money at your disposal. If we use the previous example of having $25,000 per year left over to spend after saving and realize that we spend $1,500 on housing and utilites, $300 in groceries, $300 on a car payment, $100 on clothes, and $150 dollars on a bar tab each month we have now eaten up $2,350 per month of our disposable income. This leaves us with $150 left over each month to spend on other things we may need. Just by making the small change of buying a used car and not having a car payment we have freed up $300 per month or $3,600 per year that could be spent on things like taking a vacation, investing in yourself through some type of class or lesson, or nights out with friends (assuming you have the capital to purchase that used car).
The lower you can get those base expenses the better because you can now do one of two things. You can save more money increasing your savings rate each year, or you could continue to save a fixed amount and spend whats left on the things that make you happy. I advise to find a good balance between the two making sure that your not saving too much where you are constantly stressed and deprived, and spending too much where you are wasting money on things that don’t increase your overall happiness. Sustainability is the key.
Take some time to look over your current expenses, savings rate, and disposable income. Determine if you can cut some expenses to save more money and have that money withdrawn straight from your bank account and into an investment account on a weekly or montly basis. By doing this you don’t have to constantly evaluate your own budget and waste time creating excel sheets unless you really want to. For some, having a set budget they look at every month may keep them more disciplined and on track with their savings goals, and if so thats great! I personally prefer the more hands off approach where I know my savings goals are being met, and whatever is left in the bank account is what I could potentially spend if needed.
Let me know your thoughts on budgeting and if you prefer the simple approach or if you have a more organized way of looking at your money each month.