Thursday, March 12, 2009

Budget making - the hows

Recently, I had written a post as to why someone needs a budget and how useful it is in the long run. Here is the follow up on it. How do you make a budget? Mind you, I had no clue as to what a budget is and how it would help in using the resources I had. So, I did a Google search for making and using budgets and then tried some stuff on my own to hit on a sweet spot where it is not much work any more but gives all the info I need at a glance.

Some thoughts on the budget mechanism I use:
1) I didn't want to spend money on budget tools like Quicken, YNAB, etc. for I wasn't yet convinced of the positives of a budget. So, I didn't want to spend anything on it. Further, I wasn't sure if my enthusiasm would remain after a few budget sessions to justify buying the tool.
2) I didn't want to put up my finance data online. All said and done, I'm freaky about keeping my personal info offline(at least, as much of personal info as I can). So, that threw away services like Wesabe, Mint, etc from the pool.
3) I didn't want to keep moving from one format to another.
4) I wanted to be able to tweak things as I wanted them to. Basically, I wanted something that would grow and change with my learning of finances. 

At the end, I was left with either plain old pen and paper option or excel spreadsheet option. Knowing that it is hard for me to keep up with paper, I chose the spreadsheet option. I use Excel spreadsheet for entering all the info.

Here goes the mechanism I followed for making a budget.

1) Start keeping tabs on what you spend money on
Open a spreadsheet and enter columns like date, item(what you spent on - groceries, dinner, cab, printing, etc), credit(money coming to you - salary, tax refund, etc), debit(money going out - all expenses). All you have to do is to enter all the transactions in it and sum it up. The difference between credit and debit is what you have in savings. In order to know how much you spend per category, just add columns labeled groceries, utilities, etc and enter those transactions in it. Summing them up would give you an idea as you how much you have spent on each category. You can have as many categories as you want. One of my friends has about 40 categories while another has only five. But, both of them use the budget well. So, depending on your level of need for micromanagement, the number of categories would vary.  

I used to spend a lot of money on eating out(in our university dining centers and in downtown) with friends. The second vice was shopping. Not that I brought lots of stuff, it was more passive shopping. Intrigued? I usually go for shopping with my friends and help them choose stuff. In the process, I would end up buying a shirt or a perfume or a book or a ... hope you get the drift. Also, half of my eating outs happened when I went on these shopping trips - a smoothie at 11 am, lunch at 2 pm, a snack at 5 pm and finally ending the day with dinner at a restaurant cost us way more than expected. I had no clue I was spending so much on these two categories.

2) Take a hard look at each of the categories
Take a look at each transaction and see if there is something that you can drop without changing your comfort level too much. Mark each of it and make a note of the amount you can save in each category. For example, if you get a total of $300 for eating out every month but feel that you can reduce it to $150, make a note of saving $150 in that category. This would give you a feel of your budget.

For me, eating out was a result of me not having time to cook at home. By scheduling time to cook at home(at least on weekdays), it became easier to plan my groceries, get them and finally cook and eat at home. Bonus point was eating healthier stuff at home.

3) A budget draft
With the newly created cap for spending on each category, you are now ready with a budget draft. Try to consciously reduce spending in each category for the next month. Check to see if each transaction is worth it. For example, the blender that you get at Walmart might be worth the cost for it may help you cook faster whereas the cute teddy that you see in Toys R Us might not make the cut.

For me, I brought some microwave bowls(about ten or eleven) that cost me a lot more initially. But they help me store food and I don't have to cook every day. Whereas, shopping didn't make it. So, I stopped going out for shopping 'just like that' to avoid getting unnecessary stuff.

4) Making changes
Repeat steps 1 and 2 again and compare it with your expectations. Sometimes, your expectations might be satisfied(you expected to save $150 and saved $150 - keep it up). Sometimes, you might have done better than you expected(you expected to save $150 but saved $200 - keep up the good work and change your budget accordingly). Sometimes, you might have done worse(you expected to save $150 but saved only $100 - change your budget to reflect that).

For me, I had thought I would save a lot on eating out(which I did) but went over budget on groceries(expected but I hadn't thought of it). So I changed my budget to reflect the change.

5) A final word
Keep repeating the above steps and you would see that as the months go by, you have a fair idea as to what you do with your money. A budget is a living document and changes with changes in our life. Especially, for students, its hard to say that you get a set amount of money every month. Some months, you get to work more while in some others, you have so many deadlines that you just can't work part time. So, based on your situation, the budget can expand or contract. For, it is you who is being accountable to yourself.  Do what works for you!

Further, you can decide how to have fun and do it well. For example, if traveling is your kind of fun, you can save money for it and have fabulous vacations. It really doesn't make sense to spend money on movies and eating out when you could use that money towards your vacation. In all, its all about your priorities and a budget helps you chart a way towards those priorities.

For me, I try to keep all my spending on necessary expenses to 70% of whatever I earn, 20% on irregular expenses and 5% for fun spending and 5% for saving. Though this is not a hard and fast rule(I order to-go more often on days when I have a deadline looming ahead, my 'eating out' category shoots up while my groceries category goes down a bit), I try to stick to it as much as possible.  
Happy budgeting!

What type of a budget works for you? Do you use any software to track your expenses? Any comments?


Arun said...

i use mint. i dont really have the patience or commitment to export all my expenses from different credit cards. i was initially paranoid abt giving the info to mint, but considering the convinience it was worth it. and ofcourse i never use cash, cant reber the last time i used it, so everything is tracked automatically and i know the categories where im spending each month, although mint categorization sucks big time.

alpine path said...

Arun, I tried Wesabe. But then, I guess I freaked out and didn't give much account info. So sadly, it remains a ghost account till date.

Madhan Sivakumar said...

Bank of America!! Does everything...

alpine path said...

Madhan, I like BoA. But I somehow feel that the user interface is not inviting enough and friendly enough. And its useful only if you work only with BoA. Nope?