Budgeting is one of the most important aspects of maintaining good financial health. Mindfully managing where your money goes is the starting point for financial freedom.
A budget is a detailed and comprehensive list of all income and expenses over a given short period – typically, a month. It includes your salary and other income, and rent or mortgage payments, utility bills, car finance payments and other outgoings as expenses. Your budget will give you your net income.
Total income – Total expenses = Net income
You want a positive net income. If you generate a negative value, some work needs to be done immediately.
Note: this is not to be confused with ‘net worth’, which calculates your financial worth at a set point in time. Check here if you’re not familiar with your net worth.
The benefits of budgeting
- Money for an emergency. Part of budgeting includes saving. Having a pot of cash for unexpected events is crucial and removes the necessity to borrow at high interest rates when times are tough.
- Becoming a super saver. An improved net income means, literally, more disposable income. This excess cash can be sent straight to your savings account or invested.
- Attractive credit terms. If you use your budget correctly, you’ll pick up good money management habits, leading to the benefit of improved credit terms. Credit referencing agencies collect financial activity information and behaviour such as paying bills on time and reducing debt all help boost your credit profile.
How to budget
There are various methods that can be used to maintain a budget – old-fashioned pen on paper, budgeting or banking apps, or a bespoke Excel spreadsheet (download a template here) – whichever you prefer!
Bank and credit card statements will generally provide most, if not all, the information you require to get started. They usually show your income information along with your expenses – direct debits, standing orders, cash withdrawals and card spend.
Take a record of all of your income and spend over a set time period (I suggest a month). Entering this information into the allocated fields on your chosen budgeting tool will then calculate your net income. This will hopefully be a positive figure.
If it is not positive, you will need to identify your budget drains and get serious about either cutting back on spend or increasing income. We want to bring your net income out of the red.
[April 2020] During hard times like these, many of us are working with much less money than we are used to. This means we must be more frugal and really cut back costs. Think about cutting out takeaways and walking to the shop instead of taking the car. Be resourceful with how you entertain the kids – swap TV subscriptions for streaming instead.
Be creative and earn some extra money! Can you sell unwanted items? I just sold some clothes on eBay! Do you have a hidden skill you could teach online? Many of us are currently isolating due to the Covid-19 pandemic, but it may surprise you that many people are still spending.
Once you have a positive net income value, you can start thinking about goals, saving and investing for your future.
Goals and targets
You must have goals. Identify what motivates you; what are you trying to achieve? Do you want a holiday next year? Or wanting to buy a property? Save for retirement? Choose a goal and plan for it.
Delayed gratification is key here. You need grit. Prioritise your financial goals over that unnecessary spend. You may feel in the short term that a monthly luxury is something you can’t live without, but the reward could mean you moving into your first home or owning your first investment property.