With the warmer weather on its way, spring-cleaning may be on your mind. In addition to getting your home ready for the summer months, a new season is another opportunity to get your budget spruced up too. If you are new to budgeting, it’s important to understand that a budget is a tool to help you examine what you earn and how you’re spending that income. By taking income and expenses into account, your budget provides estimates for how much you make and spend over a period of time.
Addressing your financial situation and distinguishing between needs and wants is an important first step in creating your budget. Recognizing areas where you might be overspending can be an eye-opening experience and creating a budget can help you adjust your spending behavior. This isn’t a one-time exercise: you should revisit and rework your budget if you have a financial windfall or setback so it reflects your current situation.
Ready to get started? Understanding the following key components will help you begin to build a monthly or annual budget:
Fixed expenses are expenses that stay the same from month-to-month, such as rent payments or insurance.
Flexible or variable expenses are expenses that change from month-to-month, such as how much you spend on utilities, groceries or entertainment.
Total expenses are the combined amount of your fixed and flexible expenses.
Total monthly income is the income from your job or other resources which could include investment dividends, pensions, rental income and more.
Disposable income is the money you have left over after you subtract your income taxes from your income.
The next step is to create your monthly budget by adding up your disposable income, estimating your total expenses and then figuring out the difference.
Add up your income. To create a monthly budget, you should first list your total monthly income. When tracking your salary, be sure to list your disposable income. And if taxes aren’t automatically taken out of your paycheque by your employer remember to include them as another expense.
Estimate your expenses. The best way to do this is to keep track of how much you spend in a month. Online banking makes it easy to track your spending in real time. Divide your total expenses into fixed expenses and flexible or variable expenses. If your expenses change significantly each month, estimate the monthly expense with a three-month average of that category’s total.
Figure out the difference. Once you’ve totaled up your yearly income and expenses, subtract the expense total from the income total to get the difference. It’s a simple step that can reveal a lot about your spending habits. If the result is a positive number, congratulations – you’re spending less than you earn. If it’s negative, your expenses are greater than your income, and you will need to trim them in order to begin living within your means.
Need help getting started? Practical Money Skills has a budget worksheet as well as an expenses worksheet to help you calculate flexible expenses as well as fixed expenses.
Build an Emergency Fund. After creating your budget, it’s important to protect the money you are saving for the future. Do you have funds set aside in case of a major unplanned expense? Building a substantial emergency fund that covers between three and six months’ worth of living expenses is key to a secure financial foundation. When reevaluating your finances, make sure to account for emergency fund savings so that you’re prepared to handle any unexpected costs. Think about ways you can divert money to your savings on a monthly basis to start building an emergency fund or grow an existing one.
Bottom Line. Take the time to review and readjust your budget monthly until you find a plan that works for you. If you’re looking to budget for specific goals, check out our budgeting calculators – they’re powerful tools for exploring different ways to manage your finances!
Carla Hindman directs the Practical Money Skills program for Visa Canada. More budgeting and personal finance tips can be found at www.practicalmoneyskills.ca. As always, consult a financial professional regarding your particular situation.