Budgeting For Smarties! (PART I)
Surprisingly, I hear a very common question at my conference table from people whose income seems to span broad range. Here is the question: “Will you help us with a budget?” It follows my explaining that their salary statistically falls into the top incomes the world to which they will likely reply, “Well it doesn’t feel like it!” We all become accustomed to living on what we make and no one enjoys a budget. I think the problem with budgeting is this: It does not work with much longevity for most families. So they fail, or feel like they have failed when the kids get sick and there is an extra $350 in prescriptions and emergency deductibles that was not “budgeted”. Who could have known? And moreover, what are they to do? Forego the child’s treatment? Probably not.
This is a two part article on budgeting that I hope helps take the number crunching out of your already busy day. Try this simple idea that allows “on-the-run” budgeting. I believe that you will find it difficult to keep a spreadsheet in your purse or wallet and retrieve it each time you want to know if you can buy a candy bar at the gas station. This “on-the-run” budgeting process uses four categories of spending (budgeting) . The categories are: 1) Mandatory expenses 2) Cash Expenses, 3) Savings Expenses and 4) In-The-Hole Expenses. Under this structure all financial expenditures should fit into one of these four categories. Let me explain:
1) Mandatory Expenses: For many this will be the largest category of expenditures. Grab a scrap piece of paper and start adding up everything to which you are already committed that is not an optional expense. In other words, write down expenses for the things that you must have to live. You have likely already made the decisions about most things in this category. For example, the house payment is not optional in most households, it is a mandatory expense that you are going to pay! The electric bill, gas bill, prescriptions, car expenses, gasoline etc. would all be examples of these mandatory expenses or those that are necessities for nearly every one. (Side note: While I think you can get carried away with this idea, you may want to consider what I have seen some clients do. They place as many mandatory expenses as possible on credit cards. Why you say? Because these are going to be paid each month in full regardless and many credit cards will give you mileage, coupons, purchase points, awards etc.
“I think the problem with budgeting is this: It does not work with much longevity for most families.”
Be careful with this one, it can be a dangerous game if the balance is not paid in full each month.) One final note on mandatory expenses: add to your list a provision for savings as part of this category. If you think about for a moment, savings really is mandatory, but the amount is up to you! And you are going to need this when you get to category three.
2) Cash Expenses: Our second tier expenses are cash expenses. Here’s how the cash account works: After we have established our mandatory expenses, we have second tier expenses like lunches, clothing, entertainment, and literally most other expenses that do not fall in the first tier mandatory category. We decide in our initial calculations how much cash each person gets for the month and withdraw that amount at the beginning of the month, every month. How much cash you might ask? Well that depends on many, many factors such as savings, needs, upcoming expenses etc. but mostly it is simply what we can afford. The key here is to use cash. The expenses in this category are never credit purchases… never! We use cash and when it is gone, we do not go back to our well (or bank account), we simply spend no more and try to hang on until the first of the next month. It should work like an allowance. When our children run out of money and want to buy something, we simply tell them they must wait until they get their next allowance. We can do the same with our own money as adults.
It is important to realize that this cash may be spent on anything and we do not have to feel guilty about spoiling ourselves if funding for our luxury comes from our cash account. And since finances seem to top
the controversy list in many marriages, his and her cash accounts remove much of the heated debate about the necessity of expenditures. Consider this, she gets a pedicure even when funds are tight because it comes out of her cash account. He buys expensive game tickets without remorse, because it comes right out of his cash account. (Notice I did not say he pays part of the bills and she pays part because I do not advise dividing the marriage, especially over finances.) One more thing, I have found that when funds are tight, this method can actually strengthen the marriage as one partner helps the other during a tough month. Sacrifice is not all bad!
Next week we will look at the other two categories of expenditures. For now, get those numbers together!
ttt
Budgeting For Smarties (Part II)
Last week we discussed a budgeting technique that helps take the number crunching out of your already busy day. This simple budget idea allows “on-the-run” budgeting for busy folks. As I said last week I think the problem with budgeting is this: It does not work with much longevity for most families. Keeping a spreadsheet in your purse or wallet is difficult to retrieve each time you want to buy a fountain drink at the gas station. This budgeting process uses four categories of spending (budgeting) which are: 1) Mandatory expenses 2) Cash Expenses, 3) Savings Expenses and 4) In-The-Hole Expenses. Under this structure all financial expenditures should come from one of these four. Here is a short re-cap of what we discussed last week:
1) Mandatory Expenses: This is the largest category of cash outflows that encompasses those expenses to which you are already committed and that are not an optional expenses like a house, the gas bill, the trash collection etc.
2) Cash Expenses: Our second tier expenses are cash expenses. They contain most other expenses that do not fall in the first tier mandatory category. The key here is to always use the cash allowance for the month, never use credit for these expenses and try as hard as you can to avoid taking out more for the month. Like a child’s allowance, if you are out of money this month wait until next month when you get another allowance.
“I think the problem with budgeting is this: It does not work with much longevity for most families.”
Now let’s pick up with the third tier:
3) The Savings Account: Stay with me, any expense that is not part of the first two tiers, (Mandatory expenses and Cash Expenses) has to next come from savings. A new car, a vacation, a high definition television or items that that were not a part of the first two tiers, MUST come from savings. No savings, no expenditure! Often these are big-ticket items that are less frequently purchased. Now you see why we say the savings component is part of our mandatory expense!
4) In The Hole Expenses: This is the “we are digging ourselves a hole” account. This is borrowed money for items that are not a necessity. A five bedroom home for a family of two, may be handy, but it is hardly a necessity. A new car is gratifying, but a used one may serve the purpose. There may be a time you elect to borrow funds for a purchase that you really cannot afford just know these expenses are digging a financial hole for your household. If you could afford them they would not be purchased with someone else’s money. These expenses certainly may cause rough seas for your financial future, so avoid them if you can!
So there you have a budgeting process that is not one size fits all. Hopefully it is one that categorizes buying into four simple pieces that do not require a computer analysis to buy a hamburger. I think you may find that under this plan, spending is curbed towards the end of the month and you will think twice about your cash purchases! You may want to give it a go for 6 months or so, if all is working well, give yourself a raise. If you find that money is still woefully short, my guess is those mandatory expenses have long been too big and may require a serious review. Good luck with your new budget!
