Budgeting. Everyone knows what a budget is. Yet how many of us actually make our plan and stick to our monthly budget?
The truth is that most people start out with good intentions, but just one unexpected expense will come up and bust the budget. Then, most people just give up and go back to doing everything the way they did before. If you are striving to create a real, working, budget for the purposes of paying off your bad debts, or to start an emergency fund, then it is critical to develop a workable and realistic budget. So what's the big problem? Why do most of us fail at the simple task of creating a budget? Most budgets don't work, and ultimately fail, because they do NOT account for irregular or variable expenses. Everyone can quickly tell you how much their rent or mortgage payment is. It's the same amount month after month after all. The same holds true of many other fixed expenses, such as car payments, cable, insurance premiums, etc. It's really easy to budget for these expenses because the amounts don't change from one month to the next. Besides your expenses that are the exact same each month, there are numerous types of expenses that vary a little from one month to the next. Usually though, we still have a pretty good idea what we spend each month on those bills as well. A good example of this is our grocery bill. Most of us should have a fairly clear picture of how much we spend each week at the supermarket. By knowing this number we can insert a failry realistic figure into our budget and not be too far off the mark on this either. Again, the amounts may go up or down slightly each month, but we usually know a general range we're dealing with. Other examples of the variable expense category include telephone bills, utility bills, and gas. The real culprit that has busted budgets forever is the irregular expense. How much will you spend on car repairs over the next 12 months? What about medical bills? Home maintenance costs anyone? It seems that bills for these types of expenses hit us out of nowhere, and there goes our budget for the month.
Before long, we are using grocery and food money to cover a new set of tires for our car and the whole budget comes crashing down again.
So what's the solution to this problem? There is no perfect answer to this problem. But we can come up with a close approximation by using the simple technique of monthly averaging. Start by gathering 12 months worth of bank statements, and/or credit card statements. Write down (or enter into a spreadsheet) how much you spent each and every time your money went toward something that was not a regular expense. Group these expenditures into different categories, such as auto, home maintenance, clothes, etc. What you really want is a handful of useful categories. Then keep listing each of these expenses under their relevant categories for the full 12-month period. When you have a grand total, you should have an excellent idea of your total annual expenditure for these variable expenses. Now we have a number we can work with. For example, if you add up all the automobile repair expenses for the year, and the figure comes to $1,200, then divide by 12 to get the result of $100 per month average. That's how much money you need to allow in your monthly budget in order to build up enough reserve to handle a typical auto repair when it comes up. Again, this method isn't perfect, because some expenses may come up that exceeds your estimate, but at least it gives you some money to figure it out. Regardless, it is a much better method than simply guessing, or worse, ignoring auto maintenance in your budget altogether.
So now let's say the "extra" $100 goes into your savings account for six months, and then you get hit with an auto repair bill for $400. You simply pull the money from your $600 savings that was purposely built up for this type of expense. This way, you're automatically setting aside money intended to cover each type of irregular expense that you encountered over the previous year.
Most people are shocked when they perform this 12 month analysis of irregular expenses. Usually, it immediately becomes clear why their budget is wrong and they have credit card debt. This technique leads to the financial discipline necessary to recognize that any "extra" money is never really extra. For most people, if we think we have our bills covered, and there is some cash burning a hole in our pocket, the tendency is to spend it on something fun. But if we know that there really is no cash left over, because we haven't set aside the extra money needed to keep our car on the road, then we'll be less inclined to spend it on a night out. Budgeting can be successfully accomplished by using this technique of monthly averaging, especially if we consistently apply it month after month. As we move forward in life, our understanding of true expenses becomes more and more clear. We are then no longer surprised by the unexpected expense and we are prepared for it. The best way to implement this budgeting approach is to set up a regular savings program, where the amount you set aside to cover irregular expenses gets automatically deducted from your paycheck and placed in your savings account. If the money is deducted from your paycheck before you even see it, then you will be less tempted to skip this critical part of the budgeting process. You will also greatly increase your chances of making your budget work for you over the long term. |
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