You'd think I'd have learned by now... but no. I am constantly caught off guard by the sheer volume of people who don't budget. These conversations happen several times a week, and they're eerily similar.
I'm not talking about the borderline obsessive-compulsive level of budgeting that I indulge in: I track every transaction, make sure it's properly categorized, and occasionally send the passive-aggressive text to loved ones. Honestly, my budgeting skills would make the patron saint of bankers shed a tear of joy (apparently that's a real thing).
But enough about me. This is about you.
What I'm talking about is simply gaining a basic understanding of just how much money you are spending on a monthly basis. It really isn't that hard, you've just got to commit to the time to set up a budgeting system and maintain it.
At the most basic level, budgeting is pretty simple. You've got two overarching categories of spending: mandatory and discretionary.
Mandatory spending is made up of all the transactions that absolutely need to happen. These are things like your mortgage/rent, car payments, insurance, groceries, and utilities.
Discretionary expenses are all the things you can cut back on if you need to. Dining out, coffee, new clothes, furniture, video games, Netflix, and even beer *gasp* are examples of discretionary spending. All of these purchases don't absolutely need to happen, and can at least be delayed until a later date if you so choose.
Most people have a decent idea on how much they spend in the mandatory categories. For example, everyone knows how much their mortgage payment is, or how much they typically spend on electricity in an average month. This is because those expenses are larger and arrive in a predictable manner. Oddly enough they are some of the more painful expenses, even though we have less control over them.
But I would wager a healthy sum that many people have no idea how much they spend in the discretionary categories. For example, how much do you spend in an average month on entertainment? This would include things like:
Movies
Sporting Events
Theme Parks
Golf (arguably)
It's okay. This test isn't being graded. But going forward, this isn't something you want to continue failing. It's important to track how much you are spending for the following reasons:
If you're spending more than you make: congratulations! You're insolvent. This means that if you continue earning and spending at your current rate, you're destined for financial failure. This is something you want to tackle right away.
Tracking your spending over time helps you identify areas for improvement. After all, if you can't measure it, you can't improve it. If you keep a close eye on your spending for a month or two, you might just discover you're spending more than you realized on those grande no-whip coconut milk cinnamon dolce lattes.
Having a history of previous spending alerts you to any irregularities. A friend recently told me a brief story about how he was able to identify a leak in his plumbing due to an increase in his water bill. If he wasn't keeping tabs on his spending history, he might not have caught this.
Income Minus Expenses = Surplus for Investments. Whatever is left over from your expenses should ultimately end up in some sort of savings vehicle for a future goal such as retirement. If you're not properly tracking your expenses and sticking to a budget, it's tempting to take that surplus and spend it on something you don't need.
Luckily for us, tracking expenses and creating a budget is simpler these days with the power of modern technology. Remember my OCD method of tracking each and every expense, categorizing it, and checking it against my budget? This is actually made quick and easy by online budgeting software such as Mint. Mint connects to all your online bank, credit card, and various other types of accounts to automatically bring everything together into one place so that you can track it. Mint is brought to us by Intuit, the same folks that created Turbotax. The best part is it's completely free, as long as you are comfortable being fed the occasional credit card advertisement. If you prefer a paid version of similar software, Quicken is also a reputable product that allows you to dive in deeper for special cases such as owning a business.
Years down the road you'll be happy you did it, and you might even find interesting uses for your spending data.
For example, when listing one of my properties for rent, I had a potential renter ask how much utilities typically cost. I was quickly able to produce a compound bar graph of utility expense history going back for two years broken out by electricity, water, and gas. Imagine the impression this made on the tenant if he was at all concerned about the professionalism and responsiveness of his future landlord.
Or maybe you're curious about the impact having children has on expenses? Look no further, thanks to data captured by this completely automated (and free) budgeting software:
Those examples may be a little bit overboard, but hopefully by now you understand the power of capturing your spending data in order to answer important questions such as "how much money will I need in retirement?".
Okay, Okay. I Get It. Where Do I Begin?
Step 1
Set up an online-enabled budgeting software that links your accounts, such as Mint.
Step 2
Link your accounts to the budgeting software. The most important accounts to link are the ones where all the transactions occur, such as checking and credit cards.
Step 3
Sit back and relax. Don't change a thing. Let your budgeting software capture at least 1 month's worth of data for you to go back in and analyze later. Ideally you should try not to change any spending habits for a month so you can get a realistic picture of your spending.
Step 4
After one month, log in to your budgeting account, analyze your spending, and build a budget. 1 month's worth of spending is enough to build a rough baseline budget that takes into account your typical habits. Keep in mind any seasonal spending that may occur, such as an increase in electricity due to the cooling season during hot summer months. Also make sure you're not forgetting about any periodic bills that come in less frequently, such as a car insurance payment every 3-6 months.
That's it. You now have a sophisticated budget and expense tracking system set up.
Roughly once per month you should log in to the budgeting software to check on your spending. Continue to adjust your budget, look for trends, and set the budgeting software to send you text alerts for any large transactions or when you bust through your budget. This might take a bit longer during the first few months as you fine-tune the process and "teach" your budgeting software how to categorize certain transactions, but once it's established it should take all of 5-10 minutes. At this point you'll be a penny-pinching Jedi like yours-truly! Or at least you'll know exactly in what ways you aren't a penny-pincher.
Give it a shot. If you decide to take the plunge, let me know how it goes. I love getting your comments and hearing your budgeting war stories!
Comments