Financial Planning

A lot of people put off budgeting because they don’t know what to include. A budget isn’t a complex process. In fact, the key components of a budget are pretty simple and straightforward. There are basically three parts to your budget: your income, your expenses, and your net income. For each of those, you’d include a budgeted number that reflects what you plan to spend and an actual number to show what you actually spent.

Income

When you make a budget, you should include all your sources of income. That includes income from salary, wages, commission, bonuses, alimony, child support, investments, rental income, and part-time jobs. You should not include unreliable sources of income that you aren’t guaranteed to receive from one month to the next. It’s never a good idea to base your budget on income that you might not receive.

If you have a variable source of income, you should use your average monthly income to create your budget. Your average monthly income is your last year’s net income divided by 12. For example, if you made $48,000 last year, your average monthly net income would be $4,000 ($48,000 / 12).

Self-employed workers and others who don’t have income taxes withheld from their paychecks should use gross income rather than net income. That’s because these workers have to include taxes in their budgets.

Finally, list your Total Income is the sum of all your income for the month. This lets you know exactly how much you’re able to spend.

Expenses

Your expense section will be the largest section in your budget. Here, you list everything you plan to spend money on during the month. Here’s a list of common expenses to include in your budget:

• Housing costs – mortgage or rent, property taxes, and mortgage insurance
• Utilities – electricity, gas, water and sewer, phone, internet, and cable
• Debt payments – credit card payments, auto loan, student loans, personal loans
• Food – groceries, eating out, lunch money
• Transportation costs – gas, auto insurance, auto maintenance, cab fare, tolls, etc.
• Investments and Savings – IRA/401K contributions, stocks, savings, college fund savings, holiday funds, life insurance premiums, emergency fund contributions
• Family Obligations – child care, health care, child support, alimony, diapers, school fees, clothes, shoes, etc.
• Entertainment – vacations, gym membership, video rentals, gym membership
• Donations – tithes, charitable contributions
• Taxes – Federal and state income taxes, estimated taxes (for self-employed individuals)

This is not a finite list of what you could/should include in your budget. You may have expenses that are not listed here that should be listed in your own budget to ensure that it’s accurate. If you have doubts about what you spend on monthly, use your bank statement, cancelled checks, and receipts to help determine everything you need to budget for. You don’t have to worry so much about perfectly categorizing all your expenses, as long as all your expenses are somewhere on the budget. You can always include a Miscellaneous category that includes extra expenses.

It’s a good idea to list out each expense, rather than simply group them all together. For example, instead of listing Housing Costs – $1,200, you should break down all the housing costs:

Housing Costs

• Mortgage – $800
• Property taxes – $200
• Homeowner’s insurance – $200

This lets you quickly see how your money is spent. It’s also easier to tell where you can and should cut back when you need to.

Some of your expenses, like your auto insurance premium, are the same every month and will be easy to budget. These are fixed expenses – they don’t change from one month to the next. Other expenses – variable expenses – aren’t the same every month and may be harder to budget. For these variable expenses, you can use past bills to estimate a budgeted amount. For instance, you might use your electricity bill to figure out how much you should budget for electricity. When it comes to variable expenses, it’s always better to round up. You’d rather overbudget for an expense than underbudget for it.

Total Expenses is the sum of all your expenses for the month. This is the amount of money you’re spending out each month.

Net Income

Your net income is what you have left over after all your expenses have been paid. You can calculate your net income by subtracting your total expenses from your total income (total income – total expenses = net income). If your net income is a negative number, you must work on reducing your expenses (or increasing your income) to keep yourself from overspending during the month. Without bringing down your expenses, you’ll definitely have trouble making ends meet.

If your net income is a positive number, you should redirect the money toward paying off debt or saving and investing in the future.

Actual Income and Expenses

Creating a plan for spending your money is only one part of your budget. The second part is updating your budget once the month has ended, you’ve received all your income, and you’ve paid all your expenses. You should go back through and update that month’s budget with the actual numbers for what you received and what you spent. In accounting, this is called reconciling your budget.

You would update these numbers in a section called Actual Income, Actual Expenses, and Actual Net Income. This helps you see how well you stuck to last month’s budget. It also helps you figure out whether you need to adjust some parts of your budget. For example, if you underspent in one category, perhaps you can direct some of that budget to another category. Or, the opposite case, if you overspent in one category, you may need to increase the budget in that area.