Learning how to make a budget is essential for financial stability and achieving your financial goals. Whether you're just starting your career, entering college, or simply looking to take control of your finances, a budget provides a roadmap for managing your income and expenses.
You can use all the fancy budgeting apps you want, but unless you know how to budget, they really won't help that much. And making a budget really isn't all that difficult.
There are loads of different budgeting methods, (we've included a few alternative methods here, too) but they all essentially revolve around the same thing: building your financial literacy, being accountable, and making sure your finances are healthy.
What Is A Budget?
A budget is simply a financial blueprint that outlines how you plan to spend and save your money over a specific period, usually a month.
Think of it as a roadmap for your finances, guiding you on how to allocate your income towards various expenses, savings, and investments.
At its core, a budget is about balance. It ensures that you don't spend more than you earn, helping you avoid debt and live within your means. By detailing your income sources and categorizing your expenditures, a budget provides a clear picture of your financial health.
But it doesn't have to be so restrictive and draconian that you can never have a cheeky coffee or wager a little bit on your favorite gaming app.
There are several components to a typical budget:
- Income: This includes all sources of money you receive, such as your salary, bonuses, rental income, or any other earnings.
- Fixed Expenses: These are regular, predictable costs that don't change from month to month, like rent or mortgage payments, insurance premiums, and loan repayments.
- Variable Expenses: These costs can fluctuate based on usage or choices, such as groceries, dining out, entertainment, and utilities.
- Savings and Investments: This section is dedicated to setting aside money for future goals, emergencies, or investments.
- Debt Repayment: If you have loans or credit card debt, allocating a portion of your income to reduce these liabilities is crucial.
Creating a budget requires an honest assessment of your financial habits. It's about recognizing where your money is going and making intentional decisions about spending and saving. It helps you face up to unhealthy spending habits and wasted expenses so you can build a better financial future.
I, for example, love craft supplies. There was a time when I would blindly spend money on the latest shiny crafty thing and just not consider what it was doing to my bank balance. I'd just go with it. I saw it, wanted it, and bought it. Like a mad woman. Now, I allow myself a set amount for craft supplies in my budget, but also have a rule that I cannot buy more supplies until I've finished a project or sold an item I made. It gives me clear goals, easy restrictions, and more control.
How To Create Your First Budget in 8 Easy Steps
Budgeting is a journey, not a destination. It's about understanding where your money goes, making informed decisions, and setting a course for financial freedom. The key to making a successful budget lies in breaking the process down into manageable chunks.
1. Set Realistic Financial Goals
Before looking at the numbers, take a moment to reflect on what you want to achieve with your budget. Are you aiming to pay off debt, save for a dream vacation, or perhaps build an emergency fund? Maybe you have a specific set of savings goals in mind. Your financial goals help guide you and incentivize you.
Start by listing down both short-term and long-term financial objectives. Short-term goals might include saving for a new gadget, paying off a specific credit card, or setting aside money for the holidays. My short-term goal is to buy a little RV.
Long-term goals, on the other hand, could be saving for a down payment on a house, planning for retirement, or building a college fund for your kids.
It's essential to be specific with your goals. Instead of saying, “I want to save money,” try “I want to save $3,000 for a family vacation next summer.” By being precise, you give your goals clarity and make them more achievable.
One of my key expenditures and therefore long-term savings goals is to always have a veterinary emergency fund of at least $10,000. It took me a while to get there, and I regularly have to top it up again, but it's been invaluable. Veterinary bills add up fast. In May 2023, my senior dog had cancer surgery that ran to $14,000. He survived and is remarkably healthy, but my savings account obviously took a nose-dive. But he's worth every penny. I love my little guy. My pets are a huge part of my life, and I want to be able to provide them with the best healthcare, so I need the funds available when things go wrong. So topping up their bank account is a line item in my budget.
Remember, the key is realism. Set goals that challenge you but are still within reach. It's okay to dream big, but ensure those dreams are grounded in your current financial situation and future prospects. As you progress and your financial situation changes, you can always adjust and set new goals. This initial step is about laying a foundation that will motivate and guide you as you start to get a feel for budgeting and making it a part of your routine.
2. Work Out How Much Money You Have Coming In
Understanding your income is like knowing the capacity of your fuel tank before a long journey. It's critical. Let's break down how to determine exactly how much money you have coming in each month.
- Primary Job Income: For Sarah, a graphic designer, this is her monthly salary of $3,500 before taxes from her full-time job at a local advertising agency.
- Side Hustles: Jaime, an IT consultant, offers weekend coding workshops. He earns an extra $200-$300 each month from these sessions.
- Rental Income: Maria owns a two-bedroom apartment downtown. She rents it out and receives $1,200 every month.
- Investments: Chenoa has a diverse stock portfolio. On average, she gets about $150 monthly in dividends.
- Freelance Work: Alisha, a freelance writer, takes up projects that bring in around $500 to $700 monthly, depending on the number of assignments she accepts.
- Occasional Gigs: Tomas plays the guitar and occasionally performs at local bars, earning him around $50 to $100 for a night.
If you have multiple sources of income like these examples, list them all. For those with fluctuating incomes, like Alisha or Tomas, consider taking an average of the last six months or making an educated estimate.
After noting down all these sources, add them up. For instance, if you were Sarah with a side hustle similar to Jaime and an investment like Chenoa, your total monthly income would be $3,850. This cumulative figure is your financial cornerstone, guiding how you allocate funds across needs, wants, and savings.
Whatever brings you even a small amount of regular-ish income, whether that's selling vintage thrifted finds on eBay, digital art on Etsy, or doordashing, add everything to your income list.
3. Work Out How Much Money Goes Out
If you're like a lot of people who fly by the seat of their pants when it comes to money, you get to (hopefully) the end of the month and wonder where all your money went. So tracking all of your expenses is crucial, so you can see exactly where you spend your money. Let's take a look at how you can pinpoint where your money goes each month.
- Fixed Expenses: These are the non-negotiables that you cannot skip and cannot do without. For instance, Emily has a monthly mortgage payment of $1,200 and a car loan of $300.
- Utilities: The essentials that keep your home running. Think electricity, water, gas, and internet. For Jacob, his combined utilities amount to around $250 each month.
- Groceries: The food and household items you purchase. Laura, a mother of two, budgets approximately $600 monthly for groceries, including occasional treats for her kids.
- Dining and Entertainment: Those movie nights, dinners out, or coffee runs. Mark, a movie buff, spends about $100 on streaming services and other entertainment, and another $150 on dining out with friends.
- Transportation: This includes fuel, public transport fares, and occasional car maintenance. For Ava, who commutes to work, her monthly transportation costs are around $120.
- Miscellaneous Expenses: These can be unpredictable. Perhaps a birthday gift, a book you wanted, or an unplanned medical expense. Sam sets aside $200 for such unforeseen costs.
To get a clear picture, gather your bank statements, receipts, credit card statements, and any other financial records from the past few months. Categorize and list each expense. If you're like Laura but also have transportation costs similar to Ava and entertainment expenses like Mark, your total monthly outflow would be $870.
4. Subtract Expenses From Your Income
Imagine you're an artist, and your financial life is a canvas. The income you earn paints a vibrant picture of possibilities, while your expenses, like shadows, add depth and perspective. The masterpiece? It's the balance that remains when you subtract those shadows from the vibrant hues. Let's explore how to create this balance in your financial artwork.
- The Simple Math: At its core, budgeting is a straightforward calculation. If Sarah earns $4,000 a month and her total expenses come to $3,200, she has a surplus of $800. This surplus is her safety net, her opportunity to save, invest, or occasionally splurge.
- Using Tools: In today's digital age, there's no need for manual calculations. Budgeting apps and online tools can automatically subtract your monthly expenses from your income, giving you a clear snapshot of your financial health. These tools can be especially handy if you have multiple sources of income or varied monthly expenses.
- Understanding the Outcome: There are three potential outcomes when you subtract expenses from income:
- Surplus: Like Sarah, if you spend less than you earn, you have a surplus. This is your green light to set aside savings, invest, or treat yourself.
- Break Even: If your expenses equal your income, you're breaking even. While you're not in debt, there's little room for unexpected costs. It's a sign to re-evaluate and find areas to save.
- Deficit: If your expenses exceed your income, you're running a deficit. It's like a warning siren, urging you to re-assess your spending habits and find ways to cut back.
What Happens if You Have Money Left Over?
When the numbers align in your favor and you find yourself with a surplus, this is exactly where all of us want to be with our monthly budgets. Having money left over after covering all your expenses is a testament to your financial diligence. Here's how you can harness this advantage:
- Savings Boost: Consider allocating a portion of the surplus to your savings account. Think of it as planting seeds today for a lush garden tomorrow.
- Investment Opportunities: The world of investing beckons. Whether it's stocks, bonds, or real estate, a surplus can be your ticket to growing your wealth.
- Debt Reduction: If you have outstanding debts, using the extra funds to pay them down is a smart move. If I had any debt and managed to have extra money in my budget, making extra debt payments is where I would start, paying off my high-interest debt first so it costs me less in the long run.
- Self-Care and Treats: Every once in a while, it's okay to indulge. Maybe it's that course you wanted to take, or perhaps a weekend getaway, or even something as basic as a gym membership. A surplus can make these dreams a reality.
What Happens if Your Expenses Are More Than Your Income?
When the scales tip and your expenses outweigh your income, it feels like a storm cloud looming overhead. But take a deep breath. And don't panic.
- Re-Evaluate and Adjust: Scrutinize your expenses. Are there non-essential items or services you can cut back on or eliminate?
- Seek Additional Income Streams: Nowadays, there's no shortage of side hustles and freelance opportunities. Explore avenues to supplement your primary income.
- Debt Management: If debts are the culprits, you'll need to come up with strategies for paying them off fast but affordably.
- Emergency Fund: If you have one, this is the time to use it. But remember to rebuild it once your financial situation stabilizes.
To be clear: Facing a financial deficit isn't a sign of failure. It's a challenge, yes, but also an opportunity to re-strategize, learn, and grow. With determination and the right tools, you can steer your financial ship back to calm waters.
5. Track Every Transaction
Imagine you're a detective, and every dollar you spend or earn is a clue. Tracking every transaction is like piecing together a puzzle, revealing the bigger picture of your financial narrative. It's about understanding your money story.
Embrace Digital Tools
There are plenty of apps, tools, and software that can help you log every transaction. Tools like YNAB automatically sync with your bank accounts, categorizing and charting your spending in real time.
The Classic Approach
If you're a fan of pen and paper, maintaining a ledger or a journal can be therapeutic. It gives you a tactile sense of control over your finances.
Receipts Are Gold
Make it a habit to keep all your receipts. They're not just slips of paper but tangible evidence of your spending habits. Periodically, review them to understand where your money goes.
Whether it's weekly, bi-weekly, or monthly, set aside time to review your transactions. It's like catching up with an old friend — in this case, your financial self.
Every transaction matters.
Every cup of coffee, lotto scratchcard, pack of dog treats, or pack of new socks. Once you get into the habit of recording your transactions, it gets easier.
Plus, of course, just the process of having to record your transactions can make you feel more accountable and help you consider whether you really need to make that particular purchase. It's actually a really good strategy for impulsive spenders like me. It helped me be far more considerate about how and where I spend my hard-earned money.
6. Review and Tweak Your Budget Every Month
Think of your budget as a living, breathing entity. Just as seasons change and life evolves, so too should your budget. It's not set in stone but is a dynamic tool that adapts to your life's ebb and flow. Monthly reviews ensure that your budget remains relevant, effective, and in tune with your financial reality.
Reflect on the Past Month
Start by looking back. Did you overspend on dining out because of those two special birthdays? Or perhaps you saved on transportation costs because you opted to cycle to work a few times. These nuances matter.
Adjust for Upcoming Expenses
Every month is unique. Maybe August has a family vacation, while September might bring with it back-to-school expenses. Adjust your budget to accommodate these expected changes.
Celebrate Small Wins
Did you manage to stay under budget in your grocery shopping? Perhaps you found a great deal on fresh produce at a local farmer's market. Celebrate these moments; they're proof of your growing financial savvy.
Let's say you went overboard on entertainment costs because of a spontaneous weekend getaway. Instead of feeling guilty, think of ways to balance it out in the coming month. Maybe opt for free local events or movie nights at home.
Over time, these monthly check-ins help to highlight your financial growth and let you fine-tune your budgeting skills.
7. Review Where You Overspent
We can't all get it right all of the time. Even with the most meticulous planning, there will be months when you find yourself overshooting your budget in certain areas. And that's okay. Even if you're a budgeting pro, you're going to have months where you overspend. But rather than seeing these moments as failures, view them as opportunities to learn, adjust, and grow. And also acknowledge the fact that sometimes life happens or you just needed to cut a little loose and spend more pennies than you should've.
Analyze The Culprits
Begin by identifying the categories where you overspent. Was it an unexpected car repair that threw off your transportation budget? Or perhaps those extra coffee runs that accumulated over the month?
Understand The ‘Why'
Dive deeper into the reasons behind the overspending. For instance, if you notice you've been dining out more frequently, was it due to a busier work schedule or perhaps social engagements you hadn't anticipated?
Temporary vs. Recurring Expenses
Differentiate between one-time expenses and recurring ones. A friend's wedding gift might be a one-off expense, while a new streaming subscription adds to your monthly bills.
If you find you're consistently overspending in a particular area, consider alternatives. For example, if your grocery bills are high, maybe it's time to explore local farmers' markets or bulk-buying options.
By taking the time to review where you overspent, you gain valuable insights into your spending habits. This knowledge empowers you to make informed decisions in the future. It's not about beating yourself up over past choices but about understanding them and using that knowledge to chart a clearer financial path forward.
8. Make a Smart Budget Plan To Hit Your Goals
Making a basic budget is the main job, but it's not quite enough. Now you know what comes in and what goes out, and where it goes, it's time to make a plan. A smart budget plan is your roadmap to financial success, helping you navigate challenges effectively and reach your goals efficiently.
Prioritize Your Goals
Whether it's saving for a down payment on a house, planning a dream vacation, or building an emergency fund, rank your goals in order of importance. This helps you allocate funds more effectively.
Allocate Funds Strategically
If you're aiming to pay off student loans, consider allocating any extra funds or bonuses directly to that debt. On the other hand, if you're saving for a new car, set up a separate savings account specifically for that purpose.
Use technology to your advantage. Set up automatic transfers to your savings or investment accounts. For instance, if you're aiming to save $6,000 for a trip to Europe next year, automate a monthly transfer of $500 to a dedicated travel fund.
Did you reach 50% of your savings goal? Or maybe you paid off a credit card? Celebrate these achievements, no matter how small. It could be as simple as a night out or a small treat for yourself.
Tips for Successful Budgeting
Budgeting is a journey, not a destination. While the roadmap you've set out is essential, the way you navigate the terrain can make all the difference. We've got loads of budgeting tips for you, but here are some of my personal favorites. The ones I think are the most important to make your budgeting endeavors successful.
Want vs. Need Spending
Understanding the difference between wants and needs is fundamental. Needs are essentials, like rent, utilities, and groceries. Wants, on the other hand, are those little luxuries like dining out or that new pair of shoes. Or, if you're me, an extra toy for the dogs that they absolutely don't need. Before making a purchase, ask yourself if it's a necessity or a luxury and, if it's a want (luxury), if you have space in your budget for it.
Have an Attainable Goal
Set clear, achievable goals. Instead of vaguely wanting to “save more,” aim to “save $200 every month.” By setting specific, measurable targets, you give your budgeting efforts direction and purpose, making it easier to stay on track.
While optimism is commendable, it's crucial to be realistic when budgeting. If you've been spending $300 on groceries every month, suddenly cutting that to $150 might be unfeasible. But you might be able to reduce your grocery spending by $10 per week to start with. Set realistic limits that challenge you without setting you up for failure. Having a budget and sticking to it shouldn't be miserable.
Track Your Progress
Seeing your progress can be incredibly motivating. Whether it's watching your savings grow or seeing debts shrink, tracking these changes can provide the encouragement to stick to your budget. Consider using apps or simple spreadsheets to visualize your financial journey. I keep bar charts for savings goals and, like a big kid, color in a block every time I add a specific amount to those accounts. One color for regular payments and another color for extra payments.
It's such an odd little dopamine hit, but it helps keep me motivated, so I roll with it.
And I schedule rewards in there, too. Once I hit certain milestones on the way to the larger goal, I let myself have a small reward. Right now, I've got my eye on a beautiful, custom crochet hook, for example.
Life is unpredictable. Your budget should be a tool that serves you, not a rigid framework that restricts you. If unexpected expenses arise or if you find certain budget categories aren't working, adjust. Flexibility ensures your budget remains a helpful, relevant tool in your financial toolkit.
What Is The 50/30/20 Rule?
The 50/30/20 rule is a straightforward and intuitive budgeting method that divides your after-tax income into three main categories: needs, wants, and savings. This rule provides a balanced approach, ensuring you cover essential expenses, enjoy some luxuries, and save for the future. It's a guideline that offers both structure and flexibility, making it a favorite among financial planners and everyday individuals.
How to Budget With The 50/30/20 Rule
Embracing the 50/30/20 rule is like setting up a financial tripod, ensuring stability and balance. Here's how to allocate your income according to this principle:
50% Of Your Income Goes on Needs
These are the non-negotiables, the essentials that keep your life running smoothly. Think rent or mortgage, utilities, groceries, insurance, and transportation. Half of your income is dedicated to these pillars, ensuring you're never caught off guard by life's fundamental costs.
30% Of Your Money Goes on Wants
This is where you give yourself permission to enjoy life's pleasures. Whether it's dining out, a new outfit, a weekend getaway, or streaming subscriptions, this category is about enriching your life. It's a reminder that while saving and being responsible is vital, so is living a fulfilling life.
20% Of Your Income Goes to Savings
The future is unpredictable, but with a solid savings plan, it's manageable. This portion of your income is dedicated to building a financial cushion. It could be saving for retirement, building an emergency fund, or investing. It's about preparing for tomorrow while living today.
While the 50/30/20 rule is a fantastic starting point, everyone's financial situation is unique. Some might find that they spend less than 50% on needs and can allocate more to savings. Others might live in high-cost areas where needs consume more than 50% of their income. You've got to adjust the percentages to fit your circumstances. The key is to maintain a balance that makes sure the essentials are covered, life is enjoyed, and the future is prepared for.
Budgeting Not for You? Here Are Alternatives
While budgeting is a great way for many people to manage their finances, it won’t be right for everyone. Here are two alternatives to budgeting:
1: Pay Yourself First
The Pay Yourself First method is a popular approach to personal finance that prioritizes saving and investing. The concept is simple: before allocating money to other expenses or bills, you set aside a portion of your income for savings or investments.
By treating saving as a non-negotiable expense, you ensure that you consistently save and invest for your future goals. This method automatically diverts a predetermined percentage or fixed amount from your paycheck into a separate savings or investment account. By paying yourself first, you establish a habit of saving and ensuring your financial future is secure, even before addressing other financial obligations.
It helps build a financial cushion, fosters discipline and allows you to progress toward your financial goals over time.
2: Cash Envelope System
The cash envelope system is a tangible method that helps control spending without tracking every penny.
Determine specific spending categories, such as groceries, entertainment, or transportation, and allocate cash into separate envelopes for each category. Once an envelope is empty, it signals that you've reached your spending limit for that category. This system promotes mindful spending and prevents overspending by limiting the available cash for each expense area.
What Other Ways Can I Save Money?
Saving money isn't just about cutting back on lattes or skipping that weekend getaway. It's about cultivating habits that make a lasting impact on your financial health. Here are some tried-and-true strategies to bolster your savings:
- Automate Your Savings: Set up automatic transfers from your checking to your savings account. By doing this, you're prioritizing savings without even thinking about it.
- Limit Impulse Purchases: Before making a purchase, give yourself a cooling-off period. Wait 24 hours and then decide if you truly need the item.
- Shop Smart: Take advantage of sales, use coupons, and consider buying generic brands. Small savings can add up over time.
- Reduce Monthly Bills: Reevaluate your monthly subscriptions. Do you really watch all those streaming services? Can you negotiate a better rate on your insurance or phone bill?
- Dine In More Often: While eating out is a treat, preparing meals at home is often more cost-effective and can be just as delicious.
What Are The Best Budgeting Apps?
We've got a whole post dedicated to reviews of the best budgeting apps. But here are the two we think are the best choices.
- Best Paid Budgeting App: You Need a Budget (YNAB): YNAB's philosophy is about giving every dollar a job. It's proactive and helps users plan for both regular and irregular expenses. We recommend this app, even though it's paid, because it offers a huge range of beginner-friendly features compared to the free budgeting apps.
Take Control of Your Finances With YNAB!
- Best Free Alternative: Mint: This all-in-one app aggregates all your financial accounts, tracks spending, sets budgets, and provides credit score insights.