Developing a clear budgeting strategy is essential for achieving your financial goals. A personal budget gives you power over your spending, saving, and future financial security. As essential as creating a structured budget is, many fail to create a comprehensive goal-oriented budget and spending plan.
Focus on Your Financial Goals
One of the most common mistakes that people make when creating a budget is that many tend to focus only on a spending plan. While it is certainly useful to quantify exactly what your expenses are in order to track your spending habits, too often individuals ignore the bigger picture.
In addition to establishing a budget, we encourage individuals to develop clear long-term financial goals. Understanding what your future financial goals are is essential to creating a budget that stands the test of time. By outlining your long-term goals, you can more easily create a budgeting plan that allows you to achieve those goals without the stress associated with focusing solely on cutting spending.
By exploring the 6 different ways to budget, find the method that works best for you.
The first step to creating a budget is breaking down your monthly expenses. In order to create a monthly budget, you need to know exactly what your expenses are. Your monthly expenses should include any essential funds required for your daily life. This includes things like your mortgage, medical payments, insurance, credit card payments, and debt payments. Personal expenses, such as food, should also be included. Quantifying exactly how much money you need to maintain your daily life is the first step towards developing a monthly budget.
How Much is Enough?
Simply making the decision to take control of your budget is a huge first step towards achieving your financial goals. A common question people ask is how much they should be saving per month or per year. In many respects, individual’s budgets are largely determined by their own financial position, long-term financial goals, and their proximity to retirement.
Saving for retirement is a crucial aspect of creating long-term financial stability. Many individuals fail to adequately prepare for retirement. This can create a period of financial hardship, particularly in the period of time directly following retirement. Given this, it is important to create a savings that is adequate to transition into retirement without losing your current quality of life. In general, you should be saving roughly 15-25% of your gross annual salary before heading into retirement. Of course, every individual’s situation is different so a customized retirement saving plan is almost always needed.
Simply put, everyone should have an emergency fund. Emergency funds are funds that are set aside to cover emergency situations. An adequate emergency fund allows you to navigate difficult periods without added financial stress. Emergency funds can cover unexpected expenses that pop up. These include things like car repairs, house repairs, or loss of employment. Emergency funds give you the ability to cover your bills for a short period of time, creating breathing room and reducing any potential financial stress. In general, it is advised that you set aside enough money to cover 3 to 6 months of living expenses.
How Much Should You Set Aside for Emergencies?
Life is unpredictable. This unpredictability must be accounted for when determining your budget. Emergency funds allow an individual to quickly deal with unexpected expenses. As we outlined, an emergency fund should have enough money to cover at least 3 months of living expenses. Ideally, you should save up enough to cover 6 months of your living expenses.
When calculating your emergency fund, take your total monthly expenses and multiply it by the number of months of coverage you would like. For example, if your monthly expenses are $9,000, you should expect to have a minimum of $27,000 set aside as an emergency fund. Ideally, you would have enough for 6 months of expenses set aside, or $54,000, in this example.
Furthermore, if your income is generally stable (e.g. you receive a steady W-2 income), then you can likely afford to save 3 months of livings expenses. However, if your income is volatile (e.g. you are an entrepreneur and your income varies greatly), then we suggest saving more.
Strategies for Achieving Your Financial Goals
Budgeting is about creating long-term financial goals and achieving those goals over time. Although sticking to a personal budget can be difficult at times, there are a few strategies that can be employed to help you achieve your goals
Automatic transfers are an underutilized tool that can help you achieve your financial goals. The benefits of automatic transfers for savings plans are numerous. They can be set-up individually for each of your financial goals. Whether you are saving for retirement, setting aside emergency funds, or working towards buying a house, setting up an automatic transfer for each of these goals will keep you on track over time. Additionally, automatic transfers help reduce instances of poor financial decisions, such as impulse purchases, by moving the money out of reach before it can be spent.
Understand That Life Happens
No individual can plan for all of life’s unexpected twists and turns. Budgeting helps create the structure for long-term financial stability and achieving your goals, but it is important to always keep in mind that unanticipated events pop up. The best part about having a comprehensive budgeting plan in place is that as long as you are meeting your savings goals and living expenses, extra money can be spent however you please. In other words, create a savings plan, cover your expenses, and don’t worry too much about the rest.
Once someone has created a budgeting plan, one of their first reactions is typically “Why didn’t I do this sooner?” The sooner you get your budget under control, the sooner you are working towards achieving your financial goals. In order to begin the path towards long-term financial freedom, consult with a fiduciary financial advisor today to create the goals and structure you need to take control of your financial situation.