Thursday, September 07, 2006

How to create a household budget

Summer's over, and you've decided you really need to get on a budget. You're serious this time. You're really going to do it. But just how do you go about creating one?

Setting up a household budget is easier than you think. Here are three basic steps to getting started.

Track your expenses
To get a handle on your money, you need to know where it's going. So for 30 days, write down every transaction you (and your spouse, if applicable) make and bill you pay. That will provide a realistic idea of just how you are spending your money.

You can use any method you choose. Jot the transactions down in a pocket notebook you carry with you, keep receipts and list them in a spiral notebook or accounting ledger at the end of the day, or use a computer program or spreadsheet. A friend of mine uses his Daytimer. The key is to find something that is easy to do and makes expense-tracking a habit. (To find some expense-tracking tools, Google "track expenses.")

I use Quicken, which is great for totalling up the amounts and sorting purchases into categories (the next step). But because it's not as accessible as a notebook or sheet of paper, receipts I need to enter can quickly pile up. I think it's better to start out using plain old pencil and paper.

Categorize your spending
As you track your money, begin thinking about how to sort the different transactions into categories. Obvious ones are Mortgage/Rent, Utilities, Food, Clothing, Entertainment, and Debt (credit cards, car payments, student loans, home equity payments, etc.). However, also be sure to include a Savings bucket that covers money set aside for emergencies, holiday shopping, vacation, etc. Every transaction you make should fall into an appropriate category.

You can create as many categories as you need, and even break them down into subcategories. For instance, you might put DVD rentals, pizza take-out, and tickets to the ball game under the single heading of Entertainment. Or you could put them in separate categories of Videos, Dining Out, and Events. It all depends on what you want to track. M and I bundle things we purchase from the grocery store into a Grocery/Personal Items category, but have a separate bucket for Baby Items (just because I'm interested to know how much diapers, wipes, and the like increase our monthly spending).

Bear in mind that the more categories and subcategories you have, the more complicated your system gets. If it gets too hard to maintain, simplify it. Sticking to your system is more important than determining how much you spent on Starbucks coffee every month.

Set spending goals
Once you've tracked real monthly expenditures and sorted them into your spending categories, total up the separate amounts. You now have a clear picture of your basic monthly budget, and are ready to set goals for how much you can spend in each category each month.

Goals for fixed expenses, like rent or gym memberships, are easy to determine because they are the same each month. Much harder are areas like Groceries, Clothing, and Entertainment, which are almost completely determined by how much you choose to spend each month. Use your expense-tracking record as the basis for these amounts.

Remember, though, that your monthly expenses shouldn't exceed your net monthly income (the amount you have left after taxes). If your budget shows that's the case, you are overspending and you're going to have to make some adjustments to avoid further trouble.

The good news is that you've taken the first step to getting on the road to financial stability. Once you adjust your spending, keep tracking your expenses, and compare them regularly to your budget. In a matter of time, you'll have things under much better control.

Do you use a budget?
How about you? Do you use a budget for your personal finances? If not, how come? How many times have you tried to start one? Why do you think it didn't work?

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