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Budgeting. It's a word we're all
familiar with. Everyone knows what a budget is,
right? Yet how many of us actually make and stick
to a solid monthly budget? The truth is that most
of us start out with the best of intentions, but
an unexpected expense comes up and busts our
budget. Then we give up and go back to juggling
our finances and worrying about having too much
month left at the end of the money. However, if
you are striving to create a budget for the
purpose of systematically paying off your debts,
or to start a savings and investment program, then
it's critical to develop a workable and realistic
budget.
So what's the problem? Why do most
of us fail at the simple task of creating a budget
so we can live within our means? The simple truth
is that most budgets don't work because they fail
to account for irregular or variable expenses.
Everyone knows how much their rent or mortgage
payment is. It's the same amount month after
month. If your rent is $1,000 per month, that's a
"no-brainer." The same is true of many other fixed
expenses, such as auto loan payments, cable TV
subscriptions, insurance premiums, and so on. It's
easy to budget for these expenses because the
amounts don't change from one month to the next.
Besides expenses that are the
exact same figure each month, there are numerous
types of expenses that vary a little from one
month to the next, yet we still have a pretty good
idea what we spend each month. A good example is
our grocery bill. Most of us have a fairly clear
picture of how much we spend each week at the
supermarket. So we can insert a realistic figure
into our budget-in-progress and not be too far off
the mark. Sure, the amounts may go up or down
slightly each month, but we usually know the range
we're dealing with. Other examples of this
category include telephone bills, utility bills,
and gasoline (although this one certainly seems to
be going nowhere but up these days!).
The real culprit in busted
budgets, however, is the variable or irregular
expense. How much will you spend on car repairs
over the next 12 months? What about medical bills?
Home maintenance costs? It seems that bills for
these types of expenses hit us out of left field,
and there goes our budget. Before long, we're
using food money to cover a new set of tires for
our car, and the whole budget comes crashing down.
So what's the solution? There is
no perfect answer to this problem. But we can come
to a close approximation by using the simple
technique of monthly averaging. Start by gathering
12 months' worth of checkbook registers, bank
statements, and 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 fixed expense. Group
these expenditures into categories, such as auto,
home maintenance, clothes, etc. Don't try to break
it down too far. What you 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 are done with this
exercise, you should have an excellent idea of
your total annual expenditure for these variable
expenses. For example, if you add up all the
automobile repair or maintenance 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 you need to allow in your monthly
budget in order to build up enough reserves to
handle an auto repair when it comes up. Again,
this method isn't perfect, because an expense may
come up that exceeds your estimated outlay, but at
least it takes into account a closer approximation
to reality than simply guessing, or worse,
ignoring auto maintenance in your budgeting.
The trick here is to set up a
separate savings account in which to set aside
these "extra" funds. Let's say the "extra" $100
goes into the savings account for six months, and
then you get hit with an auto repair for $400. You
pull the money from your $600 savings that was
purposely built up for this type of expense. This
way, you're automatically setting aside amounts
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, and it immediately becomes clear why
their budget is always breaking down. This
technique leads to the discipline necessary to
recognize that "extra" money is seldom really
extra. If we think we have our bills covered, and
there is some cash burning a hole in our pocket,
our tendency is to spend it on something fun. But
if we know that there really is no cash left over,
because we haven't yet set aside the extra $100
needed to keep our car on the road, then we'll be
less inclined to spend it on pizza, beer, and
movies.
Budgeting can be successfully
accomplished by this technique of monthly
averaging, especially if we consistently apply it
year after year. As we move forward, our
understanding of our true expenses becomes clearer
and clearer, and we are no longer surprised by the
occasional unexpected expense. The best way to
implement this approach is to set up a regular
savings program, where the amount you're setting
aside to cover irregular expenses gets
automatically deducted from your paycheck and
forwarded to 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, and you
will greatly increase the chances of making a
budget work over the long term.
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