Someone asked me the other day about a budget. She said she had never really used one but could see how one would be of benefit. She mentioned she didn't really know how to make a proper budget and would I mind, please, writing a blog post about it?
I said sure.
So here it is: How To Make a Budget
The very first step is to quit thinking about what you make in Gross (before tax) dollars. For the huge majority of us (myself being an exclusion because I am self employed and pay my taxes once a year at tax time) we do not take home our gross pay. First taxes come off. Along with things like benefits, dues ect. So even though it feels less impressive we need to deal with your take home pay, your Net Income.
An ideal budget looks something like this:
35% on HOUSING
15% on DEBT REPAYMENT
15% on CAR/TRANSPORTATION
25% on LIVING
10% on SAVINGS
For the sake of round numbers and a modest income lets work with my family's $5,000/mth NET INCOME.
That would mean the break down would look something like this:
$1,750 on HOUSING
$750 on DEBT REPAYMENT
$750 on CAR/TRANSPORTATION
$1250 on LIVING
$500 on SAVINGS
Pretty simple right? In theory yes. But I think the place people start to get confused is when you look at what gets classified into these sections.
If you rent then the housing section includes your monthly rent payment. If you are trying to save for a down payment on a house it might be wise to think about how much housing would cost if you were to own, then set that aside. From the set aside money pay your rent, the remaining will go into a savings account with the goal of down payment. This is a great, quick way to set aside some money and it also ensures that when you do make that transition to home ownership you are already aware of the real costs and able to live with them.
If you already own then you need to factor the following things into your housing costs:
- private mortgage insurance. Sometimes a mortgage broker will have this paid out in full to the mortgage company at the time of closing, but frequently it is paid alongside your monthly/bi-weekly/weekly mortgage payment. And, of course, if you put more than 25% down on your mortgage you get to bypass PMI altogether, you smart planner/saver, you!
-property taxes (could be billed annually or alongside your mortgage payments)
-utilities (gas, water and electricity) Even though we only get our water bill quarterly it doesnt make sense for me to not pay it for two months then expect that I would have it in the budget the third, Instead we look at our bill, divide by three and pay that every month whether we got a bill or not.)
- condo fees
-maintenance/ home improvements To keep afloat of these costs its best to budget somewhere between 1-2% of your homes purchase price every year. This will help pay for "big ticket" upgrade and repairs like new windows or furnace but can also be put to use when you want a fresh coat of paint in the dining room or a new deck out back. Keeping up on these things helps maintain the investment you made in your home. It ensures that as you pay down your mortgage you are doing everything in your power to improve your property value which in the end makes you money.
- home insurance
***IF YOU TAKE A SECOND MORTGAGE OR "ROLL DEBT" INTO YOUR MORTGAGE IT DOES NOT GET ADDED TO YOUR MORTGAGE PAYMENT (FOR THE SAKE OF MAKING A BALANCED BUDGET). THAT IS STILL DEBT AND NEEDS TO BE PAID WITH YOUR DEBT REPAYMENT BUDGET. KEEP IT OUT OF HERE, FOLKS!***
HERE IS WHAT THAT LOOKS LIKE FOR US:
We bought our house for $161,000 with 5% down. Our PMI was paid in full at the time of closing. In our region we pay some of the highest property taxes in the country. We got a nice 3.1% interest rate on our mortgage and pay it bi-weekly. Our property taxes are paid bi-weekly also and taken out at the same time as our mortgage. Together they come to $460 bi-weekly, $920/month.
We pay roughly $400/month in utilities.
This is not a co-op or a condo home so we pay no fees in that regard.
Since we paid $160,000(ish) for our home, if I took 2% of that cost I should plan to spend about $2,400 a year maintaining our home. That breaks down to $200/month.
- our home insurance cost is $111/month
Keeps me under my $1750 allowance so I declare we can afford our home and move on to the next category. :)
Some people look at the number $750, then they calculate what they are spending every month to make their minimum dept repayments, and for them its over $750. For some people it is way over.
Some people are living so close to the line that they are putting basic monthly expenses (gas, groceries) on their credit cards, using lines of credit or bank overdrafts. Then they pay a huge amount on their "debt repayment" every month and think they have done a good thing. Problem is two fold here. One, if you're racking up debt you're really not making much progress when you "pay it off" since you already spent that money. Two, perhaps making such a "huge" debt repayment is whats putting you in a position where you cannot afford to pay cash for your basic needs.
If the minimum payments required on your debts comes out to more than 15% of your income then you need to bring in more money to even that out. Really not too many ways around that unless you want to make pretty massive cuts to expenses elsewhere. Sorry.
If you have debt but your minimum payments cost you less than 15% then boost your repayments. Max out this 15% until all your debt is gone.
Debt should not take longer than three years to clear. If your debt plan has you staying in the hole longer than 36 months then I guess its time to take in some sewing, walk some dogs or do what it takes to earn the extra money.
If you have no debts (you WILL get here!!! Stick with it, there is an end in sight I promise!!!) then you get the extra $750 (15%) to put back into your cash flow, you lucky duck.
*That being said, if you have no consumer debts but are still paying a mortgage, reach out to your mortgage company and find out if they have an option of making a lump sum payment once a year toward your principle without penalty-most do. In which case, ask what the maximum allowable lump sum is. Then save your 15% until you have that amount to put down when that time rolls around each year.*
HERE IS WHAT IT LOOKS LIKE FOR US:
Obviously, as mentioned above, we are still paying a mortgage. Our debt repayment remains maxed at $750 each month.
If you do not own a car this will include things like bus and cab fare. Perhaps maintenance on a bicycle (getting around on a bike is a good idea for so many reasons).
If you own a car this will include
- car/lease payments
WHAT IT LOOKS LIKE FOR US:
A few years ago we bought a new car. Since my husband works in a city other than the one in which we live we needed something more reliable than what we had at the time.
Our car payments are a staggering $430/mth. I know, right?!!?!! Just kills me every month to pay this.
Our car has a bumper to bumper warranty which leaves us responsible for maintenance like oil changes, new windshield wipers and tires. The warranty happens to expire the same day we are due to make our last payment....how very convenient. But that also means that while we have to pay a whopping $430 month we only have to budget $30 for maintenance because anything major that goes wrong is covered right now.
Our car insurance is $87/month. We keep this low by me not driving at all. So I don't have to be covered even as an occasional driver. Since I work from home and home school anyways (combined with That Guy having work start times as early as 4 am sometimes, read: I would not be up for driving him in to work just to have the car) this really is not a big sacrifice for us at all. However, because That Guy works in a different city we do drop about $200/month on gas. We are lucky to not have to pay parking on any sort of regular basis.
= $747 That brings us right to our max budget. I am looking forward to next year when the car is all paid off.
But you know what they say... "You either have car payments or car repairs" and I think there is truth in that. So next year when the car is paid off I won't be taking $430 a month and adding it to our cash flow. Instead I will increase our maintenance amount to $200/month set aside for repairs and/or savings toward our next new car
This section is for pretty much everything.
-birthday/ special occasion gifts
-calendar holiday events (Easter eggs, Valentines, Halloween candy ect)
Ah, you noticed my double asterisks by entertainment, did you? It needs special attention. Many of us may not realize what needs to get lumped into **entertainment**. This will include all the obvious things, like going to see a movie or the gas to drive up north for a weekend of camping. But it should also include your cable and internet packages.
HERE IS WHAT IT LOOKS LIKE FOR US:
- we spend about $150/week to feed ourselves and the day care children= $600/month
- we have no pets
- we pay $50/month for both of us to be covered with our life insurance policy
- one child at a time is enrolled in swimming lessons for a running cost of about $20/month
- Walter is enrolled in Beaver Scouts. The cost is about $240/year if you factor in uniform, trips ect. Although we have to pay it as a lump sum we set aside $20/month for it so that we are able to pay that sum in September. The same will happen when Audrey is old enough for an interest activity.
- we set aside about $20/ week in the event that we require prescriptions that are not fully covered by That Guys health benefits through work, or vision or dental care. $80/month
- we provide our kids with an allowance that is equal to one dollar for every year old they are $7/wk $28/month. We encourage them to think about and use that money when they come to us for a want. Because they are young and without expenses we guide them to use 40% to pay for things they would ask us for (a smoothie at the mall, for example or a new game on their Leap Pad). Save 30% for "planned spending" (When Walter turns 16 his dream is to buy a brand new GMC truck with a trailer attached, inside the trailer is a second brand new truck- this is where he enthusiastically puts his planned spending money toward). We encourage 15% to go to Savings to build a foundation for long term savings and 15% for charitable giving.
- We do not have cable TV- we dont miss it at all and I love that I am not paying for my kids to to be bombarded with commercials. Our internet and home phone package is $80/month
- I like to budget $30/week for gifts/calendar events/hobbies/ clothes ect. $120/month. Some weeks this is much more than we need, but when we need to buy chocolate Easter eggs, or host a bridal shower this is where we can pull from.
- In terms of charities we usually donate our time or talents because we don;t have much money. We are very active with our Community Care organization, and That Guy and I are active blood donors. I am also active in my church community to offset the fact that we cannot offer much in terms of money to the running of the congregation.
- both That Guy and I have android smart phones. Because we both live and work in city centers we are able to do without a data package on our phones and simply connect to free wi-fi signals almost everywhere we go. We have unlimited access to voice and text. Both our phones together cost $62/month
That brings us about $1060/moth. Plus a few little "here and there" costs probably bring us closer to $1100/month if I am being very honest.
You must do this. Yup, even you. Even though you have a great job and you could never loose it. Even you who has a ton of debt and you just want to get ahead of it- you must save too. You need something to fall back on. And there will come a time when you fall back. It happens to the best of us.
Save 10% of your income at least. You will need to keep contributing to long term savings for the ...err... long term.
But some might ask how much they really need in an Emergency Savings account. There really isn't a "right" answer here.
I can tell you, though, how we approach it. We like to have our $500 deductible for our car insurance, and $500 deductible for our home insurance set aside. On top of that our goal is 2 months living expenses per each member of our family. So for us that's just under $4730/month x 2 months ($9460) x 4 people = $37,840. Thats how much I would need set aside to feel like I was covered. Obviously I do not have anything close to that. But we work toward it as best we can :)
And there it is, gentle readers, how I made our budget. Hope it can help some of you understand your own expenses vs income.