Budgeting has a bad reputation for some odd reason. It is seen as a very restrictive way of thinking and the end of all fun in life. People that I have worked with have even had clear fear of implementing a budget into their lives. By the end of this story I hopefully have made most of the doubt and fear towards budgeting go away and cleared its name so that we can learn to see the light in it.

What is budgeting?

Let’s actually give a definition to budgeting the way I see it. A budget is a plan that tracks your expenses and makes sure you get the most out of your income in all the aspects in your life in the long run. This is a quite broad way to look at this so let's break it down to the main points:

1. Budgeting is mainly about tracking expenses you have. Often you see the process of budgeting started from what is your income and then fitting your expenses into this. This way only works if you are making some large changes into your life such as changing a job or moving to another location with different costs. With a fixed home and income the main focus is to keep expenses under control.

2. Getting most out of your income so that you do not have to deal with financial struggles due to overspending etc. With a budget you can make sure you are staying on track with your spending, savings and investing. This also includes having fun and doing what you enjoy in life. Fun is always part of budget, never budget fun out of it.

3. The long-term game, you need to be able to live for hopefully a long time and during this time, your finances are something you have to deal with daily. Using a budget that supports not only your current situation but also builds your future for the better is a concept that is often forgotten. Budget so that there are savings for rainy days and investments that work for you and make you more money while you enjoy life.

   
   

Different types of budgets

There are many different types of budgeting styles that have been formed into personal finance. If you search for types of budgets for personal finance you can find a list like this for example:

• Traditional Budget

• 50/30/20 Budget

• Zero-Based Budget

• Goal-Based Budget

• Spending Cap Budget

• Envelope System Budget

• Pay Yourself First Budget

• Sub-Savings Accounts Budget

• Anti-Budget Budget

When you start reading about all the different types of budgeting and how they work, they seem to just be derivatives from the only way to budget, that seems to have been given the name Zero-based budgeting. Will not get into detail with the different types except Zero-based budgeting to make this more clear why I think like this. What it means is that instead of loosely thinking in for example percentages or roughly this much goes to savings etc, you actually budget every unit of your income into some category. This sounds very intimidating at first, the fun is gone, the accountant is here! But hear me out, the reason why this is the only way to do it is that this way you have enough control of your financial situation and the flexibility to adjust it exactly to your needs and wants. It takes maybe the most time to set up but once you have it working, you will have all the possibilities as all the other budgeting systems provide by simply adjusting the ratios for each category. This will all make sense soon as lets actually go through an example of how to make this budget.

There are multiple different budgeting apps available for browsers or even mobile apps. I'm not going to cover these different versions as I do not have experience with these. Always felt like the only way to get exactly what you need is using any of the sheets, such as Excel or Google sheets, to customize exactly according to your needs. But if you are using an app or find something that suits your needs, go for it!

How to set up the budget

Let's go through an example of Zero-based budgeting. This budget is a generalized version of the budget our family is actually using. The numbers are made up but thinking of the values in either Euros or Dollars, should give you quite a realistic picture of costs and incomes of a family of four, two adults and two kids. But the numbers are not the important part here, more the functionality and how you could implement this into your life.

Fixed costs

The first figure you see below is the so-called fixed cost table. Why it is labeled so is because this takes into account all the things you have signed up for paying monthly. The bills that you know will come every month until you end the contract, hence fixed costs. These costs may vary but for the most part they stay usually quite the same without huge surprises, this depends of course on the nature of the contract, is your phone a fixed amount or based on usage. Let's go through some of the key points in the table. Income part can include as many sources you have, different allowances, supports or various side jobs you are doing. In the example you can see that the incomes are fixed due to full-time fixed monthly compensation but you can easily use this with variable income also. This requires a rough estimate of income based on the hours/shifts you have for the month. This can all be modified according to your needs and income sources. You can also look at this in the reverse, meaning this helps you with understanding the minimum income you need to cover fixed costs for that month.

Expenses area is where you will add all the recurring costs you have. Go through all the bills you pay monthly and add them as separate lines to the table for better understanding of how much everything costs. Also added annually billed rows here as various insurances might be billed annually, depending on your contract. This is important as there might be months where these types of bills pile up and having them visible already on the budget helps you to prepare for these months accordingly. We like to see how our mortgage goes monthly based on interest/principal, there is no need for you to do this if you are not interested in the amounts, just add the mortgage or rent cost as one line. If you are renting and need to pay for utilities separately, then add all the costs as its own rows again for clarity. You can make your own sections into the table as it is done with hobbies, this helps with clarity if you have more similar types of costs that you want to have as their own category. In the end you can see total expenses and total income left after expenses that we will use in the next table, variable costs.

Variable costs

This is where the budgeting gets a bit more tricky and requires some understanding of the past expenditures you normally have, so you can do the predictions for the month. In the variable section we add all the running costs that come during the month and try to predict as close as possible how much is needed for each category each month. In the example you can see that main categories are food, take out, gas if you own a car and miscellaneous costs. It also includes savings and investing as part of variable costs. Some might ask why these are labeled as variables as shouldn't investing and savings be done automatically each month with specific amounts. This is the ideal world scenario but from my experience these might vary a lot if the income/expense ratio is close to 1, there might just not be enough wiggle room for this type of automated transfers in the budget. Simply put, life happens and you need to know where your priorities are. From time to time, there is a need to adjust the amounts going to savings and investing as some months are just so much more expensive and we do not want to dip into our emergency fund to keep the same level of investments every month going. Like said, this depends on your priorities.

How you use this table in practice is that after adding all the categories and the estimated need for the month, you start adding the costs weekly into the budget, simply go through your bank statement/receipts showing all the costs you have had and add them to the correct category. The amount of categories you have depends on how many of these you are aware of beforehand. In the example you can see car repair and a birthday party that needs extra attention these months. By thinking ahead a bit what are some extra things that you are aware of and putting these into the budget already beforehand, helps you plan so much better your expenditure on other areas. If you know that large extra costs are coming you may budget less for take outs and fun categories, so you don't need to use so much from savings and investing, or even take from the emergency fund. This is all highly dependent on your priorities and goals, so keep in mind that all of this is able to be adjusted exactly according to your wants and needs.

In the variable cost sheet you can see that the income after fixed expenses are included into the calculations so you can track the amounts to fit into the monthly budget. In the example you can see that some categories go a bit over, marked red, and some categories go under the budget. After this the total actual expenses are summed up and added with planned investing and savings to check if the amounts work with that month's income. You can see that all the months end happily with staying on budget, with adjusting the variable cost estimates, including savings and investing amounts. Some months you cannot order as many sushis or pizzas as you want to or put as much into savings and investing due to some other expenses taking a big bite from the monthly budget. If the leftover is positive for the month then you are free to do with this money as you see fit. Add this amount into next month's fun budget or go out and eat some extra the coming month as last month was a bit draining.

Savings and emergency fund

I used the concept emergency fund earlier and I want to deep dive into this for a bit as this is a very important part of your finance management in general. So what is an emergency fund, this is an amount of money you keep in the savings, on a separate account if you will, that you will only use when things go real bad. Simply put, the emergency fund is the buffer or insurance so that you do not need to take money out of other assets if your income would suddenly stop for a while. This fund is usually said to contain the amount of 3-6 months living costs. I will briefly explain why I think this should be a minimum of 6 months. The current estimates of getting a new job on average takes around 6 months or more according to multiple studies done recently. This is highly dependent on the types of jobs you are looking for but let us say this is quite common for most full-time jobs currently. As you can see, the 3-6 months recommended amount by many experts does not quite cut it anymore nowadays. So to cover these situations, it would be wise to have the emergency fund amount as minimum 6 months of living costs. There are also other reasons to have more liquid for more advanced methods, such as the market going down when it is a good time to buy more into investments. Value of cash has become underrated with time for some reason. Argument you hear quite often is that it loses its value with inflation and never just hold money in your account. This is true, and not making an argument against this, but you have options on having the money work for you also on your account. Quick example is to always have 2-3 months of living expenses as cash and rest are tied to a 3 months fixed rate interest deposit. This way you make a gain on one part of the money and still be able to have your emergency fund cycle working and not needing to sell other assets. Reason why this helps with your long-term wealth creation is that you do not break the compounding of your investments, which works as an emergency fund for your emergency fund.

Let's say you have gathered the full amount of the emergency fund, what I would recommend is that you continue putting the same amount roughly into savings monthly. Reason being that you continued adding to your savings and you suddenly funded your family trip for the year without any need to dip into credit, sounds quite amazing right? There is a limit of course to this also, if you start having so much that could already fund another trip and have not even booked the first one, then put more emphasis on investments. Do not have too much cash, but do not forget about the freedom it creates if you have some all the time close by as opportunities to use it in a smart way comes over time.

Do not let this scare you!

If you are new to this, the whole concept might feel totally overwhelming and scary. There is a certain element when you start planning all the money in your life like this that makes it feel restrictive and so much work. Reality is that once you have built the budget template up and got it running as a habit, it actually only takes you maybe 30 minutes per month to deal with. I have talked with people who feel like this takes all the joy away from life when all the plans are made for you beforehand, impulsive fun is not possible anymore. Your behavior does not need to change if you can afford your way of living. What a budget gives is a plan for the long-term and a clear control of your finances, as mentioned before, fun is always included in it. What this control gives you is actually freedom of constant worrying where you stand financially. Once you have a system it will help you build finances towards your goals, short and long-term. By creating a budget you take responsibility for your finances in a way that gives so much more in the long-term than it takes. If you are not already doing it, start budgeting and you will soon learn to love it.