Benjamin Franklin famously said, “Failing to plan is planning to fail.” And it wouldn’t surprise us if he were talking about money and how to budget.
There seems to be a familiar feeling that if you make enough money, all of your money problems will be solved. But that’s not the case.
Look at the athletes who have squandered fortunes, or the lottery winners who have nothing left to show for it.
Making a bunch of money won’t teach you a thing about managing that money. If you can’t seem to save and manage your money when you only have a few thousand, then there’s no reason to think you’ll be able to do it with $100,000.
Internalize this: Making money is only half the battle.
The other half is making sure you spend wisely and have a monthly budget. That is the secret sauce.
Everyone Needs A Budget
It doesn’t matter if your paycheck has two digits or five digits, you need to know how to budget!
“Really, even if I am broke and barely make money, I need a budget?” Yes, you still need to know how to budget!
What if I’m rich and make more than I spend? We don’t care — you still need to know how to budget!
Whether you are a student making $8 an hour or a high-flying lawyer making $300K a year, you need to create, follow, and stick to a monthly budget.
Budgeting gives you power over your money. You control where it goes and how you spend it. Whether you are paying a debt or saving for the trip of a lifetime, you must be intentional with your money.
This post will cover how to make a budget! We are going to walk you step-by-step on how we helped one of our readers make their 1st monthly budget.
Reminder: a budget is simply an accountability document, process, or system to manage your family’s monthly income and expenses.
You need to control your money, not let your money control you.
Why Family Budgets Are So Important
We Received A Call For Help
This past week we received an email from a reader who was asking for help creating a budget. They had a healthy household income, but were still living paycheck to paycheck and felt stuck. Their motivator for wanting to get their financial life in order was to be in a strong position to start a family.
You can view their email below (huge thanks to the reader for allowing me to share this with you all!!):
After a call and a few emails back and forth, we were able to get a complete picture of their financial situation. Here are some of the relevant details:
Other Financial Details:
- They live in an urban high-cost-of-living area and rent an apartment.
- Total Debt = $24,314
- Student Loans = $14,235
- Car Loan = $9,879 (they can’t get rid of the car because one of them relies on it to get to work)
- Credit Card Debt = $200 (usually paid off monthly — AWESOME)
- Total Savings = $398.67
- Checking Account = $398.67
- 401K = Unsure if employers have one or if either participate
- Other Retirement Savings = $0
The first thing that jumped out at us was that even though the reader and his wife have a decent salary, they didn’t let their pride get in the way of getting help with learning how to budget. Kudos to them.
Secondly, only having $400 in savings at 34 years old is not ideal. However, they still have a lot of working years in which they can dig out of the hole and find stable financial footing.
Thankfully, they’ve now learned how to budget to live within their means!
Before You Get Started
Before you create your first budget, there are a few things you should do to make sure you don’t miss anything.
To make sure you don’t miss any expenses or accounts, you’ll want to review your credit report. Your credit report will list any loans, credit cards, or other debts you might have.
Some debts like medical bills won’t show up unless you don’t pay them, and they get reported to the credit bureaus.
You can check your credit report for free at www.annualcreditreport.com.
If you’ve checked your report recently, or use an app like Credit Karma, then you’re all set and can move on. It’s a great habit to check your credit report every few months to make sure there isn’t anything you don’t recognize.
You’ll also want to review and access all of your billing, paycheck, bank, and credit accounts to get an updated view of everything. This review will help make sure you don’t miss any automatic charges that might be going to an account you usually don’t check.
You’ll need a holistic view of your finances if you want to create an accurate, actionable budget.
Lastly, you want to get everyone who spends your / your spouse’s money involved. If you create a budget and don’t get your husband or wife involved, it will not work. Financial budgeting is a team activity, and everyone needs to be on the same page.
Everyone has to buy into the monthly spend numbers so that they can be held accountable.
How To Budget – Step 1: Figure out when, where, and how you’re spending money.
The first step in creating a budget is to understand where your money is going.
The two key components are your income and your expenses. Our readers sent over their spending from June and July in their email to us. We always recommend creating budgets monthly, so this was great because we got two months of historical data to analyze.
In their case, they said they have their accounts synced with Mint, so they just exported the details and sent them over in Excel. Even if you don’t have Mint, you can export bank statements and credit card statements to get the same information.
If you get paperless statements, you can always copy and paste pdf documents into a spreadsheet, but it’s easiest to export them as a file and not deal with copying and pasting from a pdf file.
The file they sent over had over 130 transactions on it.
The first thing we did was categorize the expenses into categories to see how they spent their money quickly.
It doesn’t matter if they eat at Wendy’s or Chipotle (they went to both), what we wanted to know is how much they spent on restaurants in total (over $430 per month!).
To categorize the expenses, we opened up a copy of our Budget Template and assigned their transactions to the different categories.
Categorizing their bills into categories took us about an hour of work. But remember that the first time is always the most challenging and time-consuming. We did this in Excel, but you can also use Google Sheets or the old-fashioned way by using pen and paper.
If you prefer to do it with the paper, you’d want to print off the transaction data and then manually write the category next to the line item. We like using Excel because it makes it a breeze to add the categories up.
Once we had added up the transactions by category, we input them into the Finance Twins Budget Template.
The categories make it a breeze to spot patterns and see where you spend money!
Right away, we noticed that their June take-home pay was $4,122.16, and they spent $707.14 on food. That’s 17% of their income! Their rent also accounted for 44% of their income, which is much higher than the recommended 30%!
No wonder they find it so hard to save money.
They also didn’t have any savings goals or targets they were aiming to hit.
They were crossing their fingers and hoping to spend less than they made, without fully understanding what was happening.
Here’s their June data by spend category/bucket!
Looking at July, we see a similar spending pattern with a couple of notable highlights.
In particular, we notice that they spent $201.07 more than they made during the month! Clearly, there’s too much spending happening.
As we mentioned earlier, the big-spending accounts are food and housing, so we will have to tackle those in August.
If you take both June and July together, they only saved $17.34 from the $8,200 they made.
Technically speaking, spending less than they made is good, but unless they make BIG changes, they’ll have no retirement savings.
At this point, we’ve completed the bulk of the heavy lifting when it comes to making a budget.
How To Budget – Step 2: Identify Which Expenses Are ‘Must-Haves’ Vs. ‘Nice-To-Haves’
Now we know precisely where, when, and how they spent their money. Now, let’s focus on budgeting for the next month (in this case, August).
To know what to budget for the next month, we need to look at what we’ve previously spent money on and identify which things HAVE to repeat next month. Restaurant meals aren’t expenses that MUST happen.
Eating at restaurants falls into ‘Nice-To-Have’ territory.
Going on a vacation is incredible, but you aren’t going to die without one; otherwise, we would’ve died before graduating from high school.
We want to first focus on the expenses which are mission-critical to your family and that you can’t go without (like transportation to get to work or childcare). Just because you love ice cream doesn’t mean it falls into this category. We are talking about rent, medicine, basic food, and sustenance, etc.
Upon reviewing their 2 months of historical expenses, we identified the following must-have or critical expenses:
- Monthly rent = $1,800
- Electric & Gas = $55 (paid every 2 months)
- Cell Phone = $197.44
- Groceries = $250
- Car Loan = $200.14 (gas paid for by job)
- Medications = $10
- Total = $2,512.58
Here are important non-critical expenses which will be prioritized if we still have money left after allocating money to be saved/invested:
- Toiletries = $12
- Internet = $34.24
- Gym Membership = $45
- Public Transportation Pass = $80
- Student Loans = $140
- Total non critical recurring expenses = $311.24
Nice-to-have expenses will be prioritized last:
- Rideshare / Taxi
- Charitable Donations
- Discretionary Unrestricted Spend
- Toys / Games
How To Budget – Step 3: Begin to input numbers into a new budget.
Now that we know the must-have and nice-to-have expenses, we can start to fill out a blank budget template. At the bottom of the budget template, we see how much of the take-home income we have allocated.
This allocation figure takes the difference between the take-home pay and all of the savings and expenses allocated. We need to assign 100% of our income to the different expense categories to complete the budget. Every single penny we earn needs to have a job.
The goal here is to try to minimize the spend buckets and maximize the savings buckets (emergency fund, retirement savings, children’s college fund, and other taxable investments).
The savings rate % at the bottom of the template is calculated by taking the Savings category total and dividing it by the Total Income.
The first thing we did was input the income at the top of the sheet. If you have a fixed salary, this amount won’t change. If your pay varies by month or you expect a bonus, this will need to be adjusted monthly.
Once you have input take-home pay, the next step is to decide how much you’ll be able to save. For this couple, we set an emergency fund savings target of $915.33. They felt comfortable saving this amount by cutting back on their expenses.
A savings rate of 15% is excellent, and this is 22%, which is even better. This lovely couple wanted to save more than 15% since they are getting a later start on their retirement savings.
Next, we filled in the must-have critical expenses and then saw that we still had $694.25 to allocate to the other costs.
To do this, we went account-by-account and assigned values that seemed reasonable. An example of this is the $40 we allocated to discretionary spending for each individual.
We find this category to be crucial because, without guilt-free spending, people often get desperate for something and spend more than they meant, or they feel too restricted by their budget, and they give up. You need to make this project sustainable, or you’ll give up after a few weeks or months.
It’s not about sticking to your budget for six months. It’s about sticking to it for six years. So don’t pinch pennies like crazy if you’ll be miserable and catch yourself falling into bad habits.
Here’s what their new budget looks like:
Let’s go through the accounts so you can understand how we arrived at the final budget.
- Emergency Fund = $915.33 — we set a savings goal of 22.2% for them.
- The savings goals should be determined first. We recommend a savings target of at least 15%.
- Once you know what your paycheck will be, decide how much you want to save and allocate this first.
- You’ll then allocate the remaining amount amongst the other categories. If you don’t have an emergency fund, start there.
- Rent = $1,800 — they are stuck with this rent payment for another five months until their lease ends.
- Electric & Gas = $55 — they work a lot so they aren’t home often and their bill comes out to roughly $55 every two months.
- Cell Phone = $197.44 — they need to switch to Cricket to lower their bill.
- Internet = $34.25
- Groceries = $250 — they need to begin to cook more meals at home and eat out less often. They live in an expensive city, but $250 per month is enough to cover meals for two people.
- In June, they spent $300 on groceries, but that included $150 for a party. In July, they only spent $72 on groceries because they were eating at restaurants so often.
- Restaurants = $120 — they need to stop relying on restaurants for everyday meals and lunches. You can save a TON of money by packing work lunches and preparing simple meals at home (like a chicken stir fry with veggies and rice).
- This budget is still enough for them to go to restaurants here and there, but if they want to go out more often, it’ll have to come out of their discretionary / guilt-free spending category.
- This budget is enough for a weekly date-night, which is super important for them.
- Bus / Train Pass = $80 — they need to use public transit regularly instead of relying on Lyft to get around. Planning will help a lot here.
- Rideshare / Taxi = $50 — we wanted to cut this out entirely but left a smaller budget so that they’d have it for rainy days or times when they leave work too late to get home on the subway.
- Gym Membership = $45 — this is a good deal for both of them. Exercise is vital for their mental health, so we wanted to leave this in the budget.
- Medications = $10 — our reader’s wife takes daily medication, so this is non-negotiable.
- Personal Insurance
- Family / Home
- Charitable Donations = $15 — our readers feel very strongly about making regular donations to their local animal shelter, so we left $15 for that.
- Books / School Supplies = $10 — they usually buy notebooks, pens, staples, etc. for work, and they said this is extremely important, so we left it in.
- Clothes = $50 — the husband goes through clothes quickly because his job requires a lot of constant movement.
- $50 is less than they usually spend, but they are confident they can find more affordable things at Walmart and Amazon. They’ll adjust this over time.
- Toiletries/Soap/Detergent/Cosmetics = $25 — this includes toilet paper, paper towels, soap, shampoo, and make-up for the couple. They think this budget is too tight, but they are willing to cut back here.
- Gifts = $45 — One of their siblings has a birthday in August, so they are budgeting for it. In September, the budget will drop to $0 but then increase in October for a friend’s wedding and another birthday.
- Car Loan = $200.14 — they still have a few years left of this loan, but they are glad they decided to buy used instead of new. They pay for auto insurance every six months, so they are going to start budgeting for it next month, so they have enough saved up when the bill arrives.
- Student Loans = $140 — this is their regular monthly payment. They plan to accelerate the pay-down here once they have six months of living expenses saved for an emergency. (a 401K match should be a priority)
- Discretionary Unrestricted Spend = $40 each — he plans to buy new insoles for his work boots, and she wants to buy a wall mount for their TV.
How To Budget – Step 4: Track Expenses Throughout The Month
In Step 3, we created and finalized our budget for the next month. But now comes the most critical part: sticking to the budget.
You have a few options here. Let’s start by discussing the most ‘extreme’ form: the cash envelope system.
Some people will move to a cash-only budget system and hide their credit and debit cards when they create a budget. They will then go to the bank and take out exactly the amount of money they’ll need for the month according to their budget. Once the money runs out, their spending for the month is over.
This method is called a ‘cash envelope’ budgeting system. The couple will have separate envelopes for different expenses, and any remaining cash goes straight to savings.
Other people will use a phone app like GoodBudget, which is essentially a digital version of the cash envelope. Using this system, you’ll input a transaction into the category of spend as soon as you make a purchase. This will help you keep a running tally so that you don’t go over.
One of us uses this method.
The other one of us loves playing in Excel and just manually tracks each transaction that way.
Some people will keep a journal that they carry with them and update it on the fly using pen and paper.
As you can see, the way you track your spending doesn’t matter as much as making sure you track it.
There should be no surprises. If you are budgeting with a spouse or partner, you have to make sure you both stay synced so that nothing is being forgotten or double-counted.
One thing that most people will notice is that once they start using a budget, their volume of transactions will begin to drop because they’ll be making more meals at home or buying things on a set schedule instead of taking small random impulsive trips to the store.
As you’ll see, once you start budgeting, it’s normal for unexpected expenses to arise. If these unexpected costs are emergencies, you’ll have your emergency fund ready.
If they are just things like an unexpected friend coming into town and it means a celebratory dinner you didn’t anticipate, you have to be flexible with your budget and pull money from one bucket to another.
How To Budget – Step 5: Adjust and Repeat
As the month is coming to a close, it’s essential to adjust the budget for the next month and repeat the budgeting process. Over time, budgeting like this will become 2nd nature, and you’ll look forward to the process, especially when you realize the impact it is making (see your wealth grow or debt balance drop). If you have a disappointing month, stick with it, and make up for it the next month!
Be proactive. If you know the next month you have a trip coming up, a few birthdays, or a holiday, you’ll need to take that into account when you create the budget.
You might think you’re done once you create your first budget, and that you’ll be able to use the same budget month after month. That is not the case. Sure, you can copy over the majority of the categories, but there will always be small adjustments.
A budget is an essential component to achieving financial independence. After all, it can help you track the most critical personal finance metrics, like your savings rate and your financial progress.
Other Budgeting Tips and Considerations
Use a calendar. One excellent tip that we learned from a friend, who we taught how to budget, is to look at the coming month’s schedule when you create your monthly budget.
This quick check will help you see if you have any upcoming events like birthdays or holidays that you’ll need to plan around.
Find better deals. Your budget will also be a great way to see if you are paying too much for something. Evaluate if your subscriptions/contracts make sense. Can you cut the cord and stop paying for cable?
Know your benefits. This couple needs to confirm quickly whether their employer offers a 401K matching contribution.
Learning how to budget doesn’t make sense if you continuously leave money on the table. If you have 401K plans available at work, this needs to move to the top of your priority list.
For a full sequential guide to personal finance, make sure you read our guide here: https://thefinancetwins.com/personalfinance101/
Make big decisions with your budget in mind. This couple is spending too much money on housing. When their current lease ends, they need to look at moving to a less expensive home or finding roommates. Alternatively, they can increase their income. Ideally, they’ll do both. They need to transition from consumers to savers, and housing will go a long way to help them. Now that they know how to budget, they’ll be able to tackle the most expensive line items.
What Else Should I Know About Budgeting?
Everyone is at a different stage in their financial journey, but whether you are just starting or are already well on your way to financial freedom, it all comes down to having a budget and sticking to it. The first few months of budgeting aren’t easy, so don’t give up.
The first budget is the worst. Just know that it gets better. It took us 3-4 months for it to become routine and second nature. After this starting period, you will start to see fewer surprise expenses creeping into your spend.
It’s also important to realize that budgeting isn’t about cutting costs. It’s about proactively managing your money. Increasing your income is a part of this.
The most important thing when it comes to budgeting is flexibility. Being too rigid will make it impossible to stick to your budget. It’s like going to the gym for the first time in years and trying to run 5 miles on the treadmill. That’s just a recipe for disaster. Budgeting is similar in that you have to ease into it.
One way to make the transition easier when learning how to budget is to give yourself a monthly allowance to spend on whatever you want. Spend this money on anything, no questions asked. Love comic books? No problem.
It gives you the freedom to live your life (within reason) while keeping the big picture (future goals) in mind! We think $10 per week ($40 per month) is a good starting point for a single person. You can increase as you begin to build wealth or increase your income.
Click here to download our excel budget template spreadsheet if you are learning how to budget! We love it because it automatically adds up each category and also calculates your yearly totals for each category, including savings rate! We also have a PDF version for those that like to print things out and work on them.
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Francisco Maldonado, MD is a personal finance expert who was raised in poverty by a single mother and had to learn everything about personal finance on his own. In addition to running his personal finance site, The Finance Twins, with his twin brother, his site has been featured on Forbes, Business Insider, CNBC, US News, The Simple Dollar, and other top publications. Francisco is a physician who borrowed over $200,000 to pay for his medical training and understands debt payoff strategies and frugal living. He received his M.D. from the Mayo Clinic School of Medicine, the most selective medical school in the country, and a Bachelor’s degree in physiology from the University of Minnesota. He is currently a radiology resident at Northwestern University.