Budgeting is a very important part of effective financial management. Budgeting requires you to track your spending and hold down your costs. This ensures that you’ll have enough money to cover your needs and still have money to put towards your goals. Many people view budgeting as difficult and time consuming, but you can create a successful budget by following four simple steps.
Allocate 60 Percent Of Income To Fixed Expenses
Ramit Sethi, author of I Will Teach You To Be Rich, recommends in a Lifehacker article that budgeted fixed expenses consume no more than 60 percent of your total income. For budgeting purposes, these fixed expenses include your mortgage or rent payment, your utilities, transportation costs, and debt payments. These expenses are the most important in your budget because they must be paid on a consistent basis to maintain your current quality of life.
Allocate 10 Percent Of Income To Savings
A portion of your income should go towards saving for the future. Unexpected expenses can arise at any time. Having savings available to pay those expenses will help you handle those expenses without having to resort to credit cards or payday loans.
Allocate 10 Percent Of Income To Investments
Saving and investing for retirement should also be high on the list of budgeting priorities. One of the best ways to do this is through an employer-sponsored 401(k) plan. The percentage you choose to invest is taken out of your paycheck on a pre-tax basis and the money grows tax-deferred in the account until it is withdrawn for expenses in retirement.
Remaining 20 Percent Used For Spending Money
After the important needs have been taken care of, the remaining 20 percent of your income can be spent on things that you enjoy. Cable television, movie tickets, dining out, and new clothing are good examples of the things that would fit into this category. Medical insurance and groceries would not, as they are considered fixed expenses.
The beauty of using this formula is that it can be applied to any income level. If your expenses in any one category is less than the recommended percentage of income, the difference can be added to your investments or your savings to boost those accounts. Any additional money you receive in the form of winnings, rebates, bonuses, or raises can be allocated in the same way, with the money for the fixed expenses going into an emergency fund you can tap when necessary.