Making a budget and keeping it updated can help you monitor your financial health both personally and professionally. Understanding your finances can empower you to know how to spend your earnings and manage how much you’re saving for retirement and other life events. The right budgeting method assists you with the proper tools to identify and track the status of your financial goals.
In this article, we discuss how budgeting can be beneficial and list eight budgeting methods to help you manage your finances.
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Why budgeting is important?
Implementing a budget has many important advantages. Here’s why you might need a budget:
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It prioritizes your financial goals and helps you anticipate expenses. If you’re applying for a job, accounting for your expenses could influence your decision, especially considering the salary amount you expect from an employer. You might base your salary requirements on your financial plan and your decision on an offer from an employer that aligns with it.
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It can assist with debt repayment. Budgeting can help you make payments on time so you can pay off debt faster instead of accruing additional debt as interest grows.
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It can raise your credit score. Being in control of debts may improve your credit score, which could lower interest rates on new credit cards and loans, increase your credit limit, and help you gain approval quickly for a new apartment or rental home.
8 budgeting methods
There are a variety of budgeting methods you can use to evaluate your finances and make thoughtful decisions about your money. Consider the following budgeting methods to plan and achieve your financial goals:
1. Traditional budget
A traditional budget is when you calculate the difference between your income and expenses. It can be an effective method if you’re a detail-oriented person who’s willing to take the time to calculate individual items separately. When you sum up the amount you spend, you can set individual goals for each expense category to find areas where you can save.
Add all types of income and expenses to create your budget and financial goals, including:
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Wages
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Capital gains
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Mortgages
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Groceries
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Utilities
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Water and sewage
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Trash pickup
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Health insurance
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Car insurance
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Commuting costs
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Child care
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Retirement
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Loans
2. Pay-yourself-first budget
With the pay-yourself-first budgeting method, you save the bulk of your income first and then use the rest of your income to cover expenses or spend however you’d like. This is a low-maintenance type of budgeting, as it doesn’t require you to monitor everything you spend. Instead, you can focus on meeting your savings goal and not over-drafting your account or taking on more debt.
Follow these steps to use the pay-yourself-first budget:
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Calculate your net pay. Net pay refers to the amount of money you receive after your employer subtracts all the necessary deductions, such as income tax and health insurance, from your gross pay.
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Create a budget. This allows you to have a baseline for how much you can pay yourself.
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Set your financial goals. Consider setting your financial goals for areas such as retirement, emergencies, and vacation.
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Note the amount you’re saving per month. You can set up an automatic transfer to fund your savings goals. Consider setting up automatic transfers for your savings accounts, checking accounts, individual retirement accounts (IRAs), and other investment accounts.
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Subtract it from your monthly income. This is the amount you save for yourself each month.
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Spend the rest on bills or daily expenses. You can use the rest of your income to cover variable and fixed expenses, such as utilities, rent, groceries, and phone bills.
3. Envelope-system budget
The envelope system is a budgeting strategy that allows you to portion out your monthly earnings physically toward different spending categories. This involves taking some envelopes and labeling each envelope with a specific expense category—like rent, groceries, or student loans.
You can then put the cash you plan to spend on those things in the envelopes. If you go grocery shopping, for example, you can take cash from the designated grocery envelope and use the amount you’ve budgeted.
This budgeting method helps you prevent overspending in any particular category. If you overspend, it may be necessary to reallocate the money you’ve set aside in another envelope. Consider using this method to identify the expenses you value the most and determine areas in which you want to save more in the future.
4. 50/30/20 budget
The 50/30/20 rule budget only requires you to allocate 50% of your budget to essential expenses, 30% to discretionary expenses, and 20% to savings and debt payments. For example, if your after-tax income is $7,000 per month, you can allocate $3,500 to your needs, $2,100 to your wants, and $1,400 to your savings or debt payments.
This approach is especially helpful if you’re budgeting your expenses for the first time because it allows you to identify which purchases are necessary. You can apply this method and adjust your financial goals to focus more on paying off debt.
5. 80/20 budget
With the 80/20 budgeting method, you put 20% of your take-home pay into savings, while the remaining 80% is for spending. For instance, if your monthly income is $2,000, you can put $400 in your savings account. This gives you $1,600 for your expenses, including your needs and wants.
For this budgeting method, consider establishing an automatic withdrawal from your checking account. You can plan the withdrawals to happen a day or two after every paycheck and deposit the money into your savings account. This way, you can spend the money that enters your checking account.
6. Sub-savings accounts method
The sub-savings accounts method encourages you to open multiple savings accounts to separate the money you’re putting aside to meet various financial goals. For example, you might open up one savings account and set a goal to save $3,000 for a vacation and open another savings account to save $2,000 for emergencies. You can divide those totals by the number of months you need to reach this goal to find out how much to save per month.
7. 60% solution
The 60% solution is similar to an 80/20 budget, but you allocate 60% of your income to essential committed expenses instead of 80%. Rather than putting 20% of your earnings aside for savings, you divide 40% of your income to compartmentalize your savings. You can split that 40% of your income into these categories to account for your financial goals:
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Retirement: These refer to retirement accounts such as 401(k) and Roth IRA.
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Short-term savings: These include vacations and funds you can transfer into your checking account.
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Long-term savings: These include emergency funds and stock purchases.
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Disposable income: This refers to the amount of money you can spend or save after deducting income taxes, insurance, and savings.
8. “No” budget
The “no” budget method doesn’t require you to create a traditional budget each month, and you don’t create a serious budget plan for most of your income. Instead, you divide it into savings and fixed expenses. If your income surpasses what you’ve spent, you know that you’re able to save each month.
Here are a few ways you can budget using this method:
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Review your checking account and use a debit card. Look at your bank account to know how much money you have for expenses and whether you’re close to overdrawing. Use a debit card while applying this budget so you can view the updated balance of your checking account following each purchase.
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Know the dates of recurring bills. Write a list of dates for recurring payments to make sure you don’t forget when the money gets debited from your account. That way, you can easily account for funds you have available to spend each week on essential purchases.
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Maximize automatic transfers. Take advantage of automatic transfers to make it easier to move money from your checking account to your savings account. You may use this feature to increase the amount transferred into your account, especially if you want to enhance your savings or pay off debt.
I hope you find this article helpful.
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