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Budgeting

Feb 18, 2022

How to Make a Budget in 5 Simple Steps

By Stash Team

Learning some basics can help you get smarter about spending.

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Do you ever have that “Can I afford this?” feeling at the cash register, or when you hit the buy button online? That nagging worry can pop up with small purchases, such as a cup of coffee or an extra grocery trip, as well as with big-ticket items like a car purchase, or an exotic vacation. It can take a lot of the joy out of life, but a budget can help. Many people don’t know how to make a budget, but if you break it down into steps, it may be easier than you think.

The benefits of budgeting: for beginners

Healthy spending habits basically start with one simple concept: Spend less than you earn. For most of us, though, living according to this principle is easier said than done. Expensive surprises like home and auto repairs often seem to come out of nowhere. And there’s no end to those travel and shopping opportunities that seem like a great idea at the time, but add up to a big drain on your finances. Knowing how to stick to a budget is just as important as knowing how to make a budget in the first place.

Ultimately, building a budget is more than just math; it can be an opportunity to make intentional decisions about your long-term personal and financial goals. Once you’ve done that, day-to-day financial choices may feel less complicated. And that can be the key in figuring out how to stick to a budget because you can better understand how your spending choices connect to your long-term plans and values. Armed with that knowledge, the benefits of budgeting should become clear. Let’s get started. 

How to make a budget: Step by step

Step 1: List all your income

Your total income establishes the upper limit of what you can spend, although you probably don’t want to spend every dollar you earn since, ideally, saving and investing will play a part in your budget too. In this step, you’ll write down all your monthly income. Common sources of income include:

  • Paychecks. If you have a full-time or part-time job, take a look at your pay stub to determine your net pay. That’s how much you take home each month after taxes and other deductions such as health insurance premiums, retirement contributions, and union dues. 
  • Other income from work. If you don’t get a regular paycheck, for example if you’re self-employed, you can estimate your monthly income by dividing your expected annual income by 12. Remember to subtract anticipated tax payments.
  • Child or spousal support. If you receive these kinds of payments, be sure to include them in your income.
  • Occasional part-time employment. If you pick up extra gigs here and there, take the amount you earned last year and divide it by 12; be sure to deduct any taxes you expect to pay.
  • Investment income. Estimate your monthly investment income as best you can, making sure to subtract any taxes or fees owed. This income is the cash you expect to get from your investments, not the value of your portfolio.

If you have income outside of these categories, such as bonuses or commissions, you’ll want to write that down too. Then add up all your income and write down the result to get your estimated monthly income.

Step 2: Capture all your expenses

Now it’s time to do a little detective work on your current spending habits. Here’s an approach you can try:

  • Choose a period of time to research. The most recent month or two may be an easy starting point when budgeting for beginners, but consider looking at six months of data for a more complete picture of your spending. Some expenses like car insurance or subscriptions may not occur every month, but you’ll want to include them when adding up your spending.
  • Write down what you spent. Go through your bank and credit card statements and make a list of every expense you identify. Include the name and amount of each expense. Be as thorough and accurate as you can. 
  • Categorize your expenses. Make a note next to each expense indicating whether it’s fixed or variable. A fixed expense is something that remains the same each month, such as a rent or mortgage payment. A variable expense can change from month to month, and might include things like your electric bill, entertainment, or groceries. 
  • Don’t skip debt payments. Remember to include any payments you make on credit card balances, personal loans, or other outstanding debt.
  • Include investing and savings. Write down any money you put toward savings or investing. Even though you don’t pay that money to somebody else, it still comes out of your monthly income, so you need to account for it in your monthly budget.

At the end of this step, you should have a list of expenses, including the monthly amount of each one, and each should be categorized as fixed or variable. 

Note: Because some expenses don’t occur every month, you may need to do a little math to get a monthly amount. For example, if you get your oil changed every three months and it costs $60, the monthly cost would be $20.

Step 3: Balance your budget

Once you’ve figured out how much you earn and how much you spend, it’s time to compare those two numbers. Whether you’re just learning how to make a budget or starting your 100th attempt, this step can be tough, but it can also be a step toward greater financial confidence and security. So take a deep breath, then add up your income, add up your expenses, and subtract your expenses from your income.

If you find that your income is higher than your expenses, that may be a sign that you’re ready to focus on saving and investing. On the other hand, if you discover that you’re spending more money than you earn, you can balance your budget by looking for ways to reduce your expenses or bring in more income. In practice, people typically start by adjusting discretionary spending on things like shopping or going out to eat. Sticking to a budget can take discipline, so consider making cuts based on what feels easiest to let go of first. For instance, maybe you have a streaming subscription you barely use, so cutting that out won’t hurt.  

And remember, you can always adjust the approach you take to budgeting. For beginners, it can help to remember that the first budget you make will likely need to be updated as things change in your life.

Step 4: Set your goals

Reflect on why you wanted to learn how to make a budget in the first place. For most people, budgeting is not just a way to keep track of day-to-day spending, but can be a means to pursuing long-term personal and financial goals. This is the “why” of your budget. These goals will inform the budget system you choose, and might include:

  • Saving for retirement
  • Paying off existing debt
  • Putting aside money to buy a car or house
  • Saving for treats like a big vacation, a new car, etc.
  • Cutting back on unnecessary everyday spending

Once you know your goals, write down your short-term and long-term priorities for achieving them. When you know what you’re aiming for, you may find it easier to develop strategies for how to stick to a budget with smart spending decisions. This step might also be a good time to think about allocating money to saving and investing. You’ll likely want to revisit your priorities periodically, and you may decide to make adjustments as your life changes.

Step 5: Pick a system that works for you and get started

You’ve done the math, and you’ve defined your goals. All you need now is a system. Budgeting, for beginners or veteran financial planners, can be as simple and low-tech as a handwritten note you can pin to the wall above your desk. You can also go high-tech with software packages and apps that link your bank account, investment, and credit card accounts in real time and allow syncing via your smartphone.

Whether you opt for pen and paper, a spreadsheet, or budget-focused software, you’ll need to find a budgeting system that fits your priorities—and there are many to choose from. Here are some common systems:

  • The envelope method. To make budgeting less of an abstract exercise, some people like to use real cash. You can write each expense or category of expenses on a series of envelopes, and then insert the amount of cash you want to spend. Physically removing the money from each envelope can make it easier to see where your money is going and how much you have left over. There are also apps that use digital envelopes if you like the concept but prefer not to deal in cash.
  • Zero-sum budgeting. If you want strict control over every dollar that flows through your household, zero-sum budgeting may be for you. With this system, you assign a purpose to each dollar you earn every month, including money you plan to save. You can track things on your own with a spreadsheet or use a budget app to earmark your funds for specific needs. Zero-sum budgeting can be especially helpful if you’re trying to be disciplined about paying down debt or building savings.
  • 50-30-20 or other percentage-based budgeting. For a bit more flexibility, consider a budget that treats your expense categories as percentages of your total income, rather than as a fixed dollar amount. For example, with the 50-30-20 budget, you might devote 50% for essential expenses, 30% for non-essential expenses, and 20% for savings. Percentage-based budgeting can be helpful for maintaining control over your spending as your income and expenses change over time.

Once you’ve chosen a method, you can build a budget that aligns with the goals you set in Step 3, and start using your budget.

Which budget system is right for you?

Ultimately, the best budget is the one that’s easiest for you stick to. As much as having a budget can help you chart a path toward your financial goals, you’ll still need the discipline to monitor your budget and make appropriate decisions about spending.

Once you determine how to make a budget that works for your life, exercising discipline can help minimize the anxiety that comes with purchasing decisions. The next time you feel unsure about whether you can afford that fancy coffee or a nice new car, your budget will help you give a firm, confident answer.

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