Budgeting 101: A Roadmap to Financial Success

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Hi! I’m Andrea Caceres-Santamaria, and I love cars!

More than that, I love a good road trip. And I’ve always found that the best road trips start with a plan. I think about the things I need to take, the sights I want to see, my final destination, and of course, I think about how much it will cost.

Making a budget is like planning a road trip for personal finances--it will help you plan the best route to your destination. Specifically, a budget is a plan for managing income, spending, and saving during a given period of time. It can help you track your weekly or monthly expenses and your sources of income.

Meet Alex. He wants to pay his bills, and he wants to save for a down payment on his dream car so he can take his perfect road trip. In other words, he knows his destination, but he needs a plan to get there. Alex needs a budget.

Let’s talk about the key parts of a budget.

First, it helps to have income. Income is the payment people receive for providing resources in the marketplace. When people work, they provide human resources, such as labor, and in exchange they receive income in the form of wages or salaries. People also earn income in the forms of rent, profit, and interest. You may have heard the terms gross income and net income. Gross income is the total amount earned before any deductions or taxes are paid. Net income is gross income minus deductions and taxes--also referred to as “take-home pay”. The gross income amount is always more than the net income amount. When you record your income on your budget sheet, you will write down your net income amount. Let’s work through Alex&rquo;s budget.

Alex’s net income is $4,000 a month; let’s put that at the top.

Next, we have to include expenses--the money spent on goods and services.

No matter how much your income is, you want to control where it is going and make adjustments so that you can balance between spending and saving.

When you make a weekly or a monthly budget, you’re making a list of your income and all your expenses. Some of those expenses are fixed, which means they happen at regular intervals and are the same amount each time, such as paying a monthly rent or set amount for a cell phone plan. Some expenses are variable, which means the amount changes each time, and they include things like groceries, gasoline, eating at restaurants, and entertainment. There are also periodic expenses. These are expenses that occur every so often, such as an insurance premium that you pay every six months. These also include unforeseen expenses, such as medical bills, car repairs, and car accidents. Significant expenses like these are a great reason to include savings in your budget. The goal is not to get knocked off your budget when something unexpected comes up.

Fixed expenses are easy--you know how much they will be and when they are due, so add those in your budget first. Rent, car payment, student loan payment ... check, check, and check.

Next come variable expenses, which include utilities, groceries, dining out, and entertainment.

One of the best ways to manage your budget is to estimate your variable expenses to make them as fixed or predictable as possible. You can estimate the average you spend each month on a particular expense--say, gasoline. Let’s say you fill up your car once a week. For the next four weeks, you write down how much it costs you to fill up the tank. Week 1 = $41, Week 2 = $40, Week 3 = $43, and Week 4 = $42. You can average how much you spend on gasoline by adding up the amount you spent in the four weeks and dividing it by 4: $166/4 = $41.50. Let's round up and enter $45 per week for gasoline.

Now that you have an idea of what you spend on gasoline each week, you can start budgeting for that amount each month so that you’re ready whenever it’s time to fill up your car. You can do this for other variable expenses as well, such as groceries and utilities.

Finally, we have periodic expenses, and these can be trouble if you don't budget for them, so it’s really important to include periodic expenses in your budget. Let’s say Alex owes $1,080 every six months for his car insurance. If he doesn’t plan ahead for this expense, he might find himself in trouble. But, with a budget, Alex simply transfers $180 into his savings account every month so that when his insurance is due, the money is waiting for him. This can be useful when saving for a vacation or a down payment on your next car.

In fact, Alex is saving $300 every month for his dream car.

You may know what you pay for rent and for heating and cooling your home each month. But you probably don’t know the amount of money that trickles out of your pocket each day: You know what we mean--money for cups of coffee, items from the vending machine, and lunches at the cafeteria. It’s a good idea to track your expenses--everything you spend--for a couple of weeks. That way, you’ll know what you’ve spent on things like groceries, dining out, gasoline, entertainment, and miscellaneous expenses (like those cups of coffee). Tracking expenses can be as simple as writing a list, making a note on your phone, or using an app--anywhere you can reference it later and use it to update your budget.

Alex has learned to embrace and enjoy keeping track of his spending and using a budget. Let's review Alex’s budget.

Alex was hesitant to start budgeting because he thought it would be a hassle, and he didn’t want to see that he may be spending too much on his hobby of buying performance car parts. Once he started to budget, though, he realized it was more satisfying to know where he was spending his money. And Alex was less stressed about expenses because he had a visual and didn't always have to guess if he had enough money. He felt in control.

It’s important to think about the big picture and remember to balance income and expenses.

To keep a healthy budget, make sure your outflow of expenses is not greater than your inflow of income. If it is, you'll need to make some adjustments.

So remember, a budget is like planning for a road trip. It will help you get to where you want to go in a timely way. And, if you get lost, it can help you get back on the road to financial success.

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