Day 1 Take Control of Your Budget
WHAT YOU NEED TO KNOW
You should be psyched today because you're about to get the key to achieving financial success, and reaching most of your life goals--and that key is a budget.
It may not seem like such a special secret, but a budget will allow you to control the flow of your money--and ensure that you save. If you can learn to stick to a budget day after day, month after month and year after year, you'll be able to achieve big life goals, such as buying a home or enjoying a comfortable retirement.
While on the long road to building wealth, your budget is your best ally. Unless you win the lottery, it's unlikely that you'll wake up one day vastly wealthier, but if you make a little effort each day, you can get there. And that bit of daily effort often boils down to a budget.
The 50/20/30 Rule
Of course, not any ol' budget will do. (35% of your income spent on dinners out, and only 1% allocated for savings? Not a good idea.)
So what is the ideal way to spread your take-home pay amongst your major expenses? Turns out there's a simple model that you can follow: the 50/20/30 Rule. Once your income comes in--and we're not talking about your salary, but rather what shows up in your bank account after taxes and 401(k) contributions--the 50/20/30 Rule recommends that you divvy up your spending in this way:
- Essential Expenses. No more than 50% of your after-tax income should go toward essential expenses. Only four expenses fall into this category: housing, transportation, utilities and groceries.
- At least 20% should go toward Financial Priorities--goals that are essential to a strong fiscal foundation. These include retirement contributions, savings contributions and debt payments. You should make these contributions and payments after you pay your essential expenses, but before you do any other spending.
- No more than 30% should go toward Lifestyle Choices, which are personal, voluntary and fun choices about spending discretionary income. They often include cable, internet and phone plans, charitable giving, childcare, entertainment, gym fees, hobbies, pets, personal care, restaurants and bars, shopping and other miscellaneous expenses. Although lifestyle choices come last in the 50/20/30 Rule, you should never feel guilty about buying that expensive purse or ordering a nice bottle of wine at dinner ... as long as you've taken care of your essential expenses and financial priorities first.
Once you start following the 50/20/30 Rule, money will flow in and out of your life in this order:
There's one big benefit to ordering the flow of your money in this way: You'll only spend on necessities, and you'll actively put money toward savings before you spend on everyday items. Another plus? You'll always know if you're on track with your financial goals.
Why it matters
According to a Country Financial survey, only half of Americans use a household budget system. Sixty-one percent of those who do budget set a monthly savings goals, compared to only 30% of households that do not budget. And based on a nationwide survey conducted by LearnVest and Chase Card Services, the inability to stick to a budget is the second most often cited obstacle when it comes to achieving financial goals--right after credit card debt.
Today's TO-DO: Set Up your budget
It's time to get your budget up and running based on the 50/20/30 Rule.
Go to the budget setup page, or if you're keeping track of your budget in the LearnVest app for iPhone®, head to the Budget tab. Both the Web and iPhone versions will walk you through the process of inputting your income, entering how much you spend on essential expenses and determining how much you allocate toward lifestyle choices.
The Smart Budget will also ask you to set up Priority Goals. For now, since it may be hard to immediately start putting 20% of your income toward these goals, let's create a placeholder goal of 1% of your income toward a savings goal (and if you're already saving some money, but not 20% just yet, you can increase your savings by 1%). Later in this bootcamp, we'll help you free up room in your budget for your priority goals, as well as increase your contributions.
When you've completed your budget setup, it will show you what percentage of your take-home pay you're spending on each bucket of expenses and goals--and compare it to the 50/20/30 Rule. As a result, you'll start to see where you're spending too much, and where you can cut back.
review just how YOU'RE SPENDING
The next step is to head to your Inbox. By using the folders, you can categorize your expenses to see exactly how money has been flowing out of your life recently.
Now that you can compare how your spending stacks up to the 50/20/30 Rule, it's time to consider if you want to revise the way you're apportioning your monthly income across these expenses. If you're unsure of whether you have enough money to, say, put 20% of your income toward savings every month, don't worry. We'll spend the next few days working together to revamp your spending.
Once you've finished categorizing all of your recent expenses, and added your cash transactions to each category, click on the Inbox tab at the top of the page, followed by the Trends button, and then click on each folder on the left to look at your categories. Here are some key questions that you should ask yourself:
- Which category is the highest? To find this out, click on the corresponding folder on the side. At the bottom of each trends page, you'll see the average amount you spend in that category each month. On the right, you'll see what percent of your monthly income goes toward it.
- Where is my spending out of line with my values? Are you spending a lot on manicures, even though travel is more important to you? Do you wish that you were contributing more to charity and much less to happy hours?
- In which categories am I spending more money than I expected?
YOUR NEXT STEPS
1. Revise Your Budget
Now that you know where your money's been going, in any category where you think you need to decrease your spending or allot yourself more money per month, select the "Edit Folder" button on the top right. In the pop-up, set a new folder budget. You can also rename folders to make the categories better fit your life. The amount you allocate for each area should be in line with your goals, yet realistic. Don't think you can get by on $50 for a month's worth of groceries just because you want to spend $500 per month on shopping.
Once you're done with that, click on Budget and scroll down to the bottom of the page where it tells you how your budget compares to the 50/20/30 Rule. It will tell you on the right how much you have left to allocate to different categories--or if you're over. Depending on what this amount is, you may have some extra money that you can put toward your debt repayment and/or savings goals. If so, edit your Priority Goals to reflect that. If you're over, keep refining your categories until you come to a feasible allocation.
Now you should have a workable budget that you can use to guide your spending decisions. Over the next several days, however, we will be refining this budget even further as we unearth more ways for you to cut your costs and align your spending with your goals.
2. Get to Know the Building Block of All Personal Finance: Your Budget
- Think you've got the 50/20/30 Rule down? We hate to break it to you, but you really need to know how to apply it. Read about how the 50/20/30 Rule can work in your own life.
- Everyone should read this: our basic primer on budgeting and why it's important.
- Then, set up your budget with our checklist.
Need some motivation to stick to your budget?
- Find out the four most common personal finance problems--and their solutions.
- Read up on Americans' top five financial regrets and tips to prevent them.
- Learn how to fight your financial demons!
- Use this trick: the $0 Day.
Then, be aware of the surprising factors that can affect your budget:
- Hanging Out on Facebook Gives You Credit Card Debt
- Study Finds Women Are More Stressed by Bad News Than Men Are
- 4 Ways Willpower Affects Your Finances (and How to Increase It)
Lastly, see how your spending stacks up against that of the average American woman in our infographic!