Do you know where your money is going every month? If not, then that’s a huge warning sign that it’s time to start paying attention.
Regardless of how much money you make, budgeting is the only way to get control of your financial life.
All too often, people who are making a decent salary can’t seem to get out of the vicious cycle of living paycheck to paycheck — typically because they simply aren’t paying attention.
How often do you reach the end of the month and realize you spent the money you had planned to save?
A recent poll found that 45 percent of Americans are living paycheck to paycheck — and many of them are making a good salary. But without any idea of what they’re actually spending on, many people end up wasting a lot of the money they could be saving, and on top of that, they rack up big credit card debt just to maintain their current lifestyle.
Bottom line: nothing is going to change until you decide to start paying attention. If you don’t, you will very easily reach a point when it prevents you from doing the things you want to do when you want to do them — and that’s not a pleasant situation to be in.
The good news, though, is that there’s one very easy solution to taking control of your money: budgeting. And it doesn’t mean you have to deprive yourself or never have fun, it’s just about understanding your money and what’s important to you — both now and in the future.
This guide takes you through the step-by-step process of how to better understand your money, reevaluate your expenses, and create and maintain a budget that works for you and your goals.
Create and maintain a budget in 5 steps
1. Set goals
Figure out what your priorities are for both the near and long-term future. For example, buying a house, buying a car, a big vacation, emergency savings, retirement etc.
If you don’t know why you’re saving, it gets put on the back burner. So identify what your big goals are and then start taking steps to reach them.
Here are a couple of examples:
- Emergency savings: If you don’t have enough money saved up to cover at least three months worth of expenses, building an emergency fund should be a priority. In the case of a job loss or other unexpected event, this money will allow you to avoid going into debt.
- Buying a car or house: Even if these goals are two, three or even five years away — it’s important to start saving for them now. Otherwise, you may very easily reach the point when you’re ready to buy a car or house, and discover that you don’t have the money to do it. So start preparing early!
- Paying down debt: To be financially successful, you have to get out of debt. And this primarily means consumer debt, like credit cards.
Whatever your goals are, write them down and put it somewhere you’ll see it — as a reminder of what you’re working for!
2. Know how much you should be spending
If you want to get on the quickest path to reaching your goals, you have to start living below your means – and the best way to do that is to understand exactly what’s going on with your money, so you can keep your priorities in line and your budget on the right track.
While there’s no one-size-fits-all rule for where and how you should spend your money, there are some general guidelines that can help you create and maintain a budget that will allow you to reach your goals.
Your spending can be broken down into three main categories: fixed costs, goals and savings, and flexible spending.
Fixed costs: These are the bills that cost (roughly) the same every month. You want to spend no more than 50% of your take-home pay on these expenses. Here are some examples of fixed costs:
- Housing (no more than 30% of your income should go toward housing)
- Cell phone
- Legal obligations (minimum student loan payments/car payments/debt payments etc.)
Goals & savings: In order to reach your financial goals, you have to make them a priority. Whether it’s paying down debt, saving for a car or house, saving for retirement or building an emergency savings fund, if you don’t make these a part of the monthly budget, you’ll likely get to the end of the month and realize there’s no money left.
Start by setting aside 20% of your take-home pay each month to go toward these goals – and prioritize them. For example, if your credit card debt carries a high interest rate, you’ll want to get that paid off as quickly as possible in order to save more money in the long run and minimize the damage to your credit score.
If you are facing big credit card bills, make it a goal to pay off the high-interest debt first. So start with the credit card that has the highest interest rate and put the most money toward that card each month, while still paying the minimum payments on all other debts. Once that card is paid off, leave it open with a $0 balance, and then move on to the card with the next highest rate — and so on.
Important note: when you pay off a credit card balance in full, meaning the balance reaches $0, do not close the account. Just let it sit there.
If you don’t have emergency savings, that should be an immediate goal as well. Here’s how to start building emergency savings.
And if you can’t manage 20% each month, start small and work your way up. So maybe the first month you save 5% and then bump that up by 1% each month. After just a few months, you’ll be saving a lot more than were when you started!
Flexible spending: This includes all of your expenses that vary from month to month. You want to spend no more than 30% of your take-home pay on flexible spending – so things like eating out, groceries, entertainment, shopping, gas etc. Food is obviously a “need” in life, but there are ways to reduce how much you spend on food, so it’s not a fixed amount every month.
3. Figure out exactly how much money is coming in and how much is going out
Now that you have an idea of how much you should be spending on everything, it’s time to figure out how much money you have coming in and where it’s all going each month.
This will help you identify expenses that need to be reduced – or cut out completely – in order to keep your budget on track.
Let’s start with your paycheck. Whether you just started your first “real” job or you’ve been working for a while, before you can start controlling your money, you have to know exactly how much you’re making. Unfortunately, for most people, your annual salary is not actually the amount of money you make.
That realization slaps a lot of people in the face when they get their first paycheck.
Here’s how it works: Your gross pay, or gross income, is your total income before taxes and other deductions. Your net income is how much you actually take home in cash.
While each individual’s situation is different, there are a few taxes most employees in the U.S. must pay (which are automatically taken out of each paycheck before you get it):
- Federal income tax
- Social Security tax
- Medicare tax
- Depending on where you live, you may also pay a state income tax.
On top of these, here are some other deductions that may automatically come out of your paycheck:
- Insurance payments: If you signed up for medical, dental and/or life insurance through your employer, these payments are automatically deducted from your paycheck.
- Retirement savings: If you signed up for your employer’s 401(k) plan, contributions to your 401(k) retirement account are automatically deducted from your paycheck.
- Important note: When you sign up for our employer’s 401(k) plan, you choose a percentage of your pre-tax salary that you want to contribute to your retirement account. If your employer offers a match, try to contribute enough to your 401(k) to meet that match. Here’s why: if you contribute 6% of your pre-tax salary, your employer may contribute 3% — which is essentially free money toward your retirement!
- Flexible Spending & Health Savings Accounts: These are plans that allow you to set aside pre-tax dollars that can be used to pay for various medical expenses, including co-pays, prescriptions and other costs — and HSA money can also be spent in retirement. (Keep in mind that these are plans you have to opt in to during open enrollment.)
If you aren’t quite sure what all is being deducted from your paycheck, you can get an itemized pay stub from your employer — and most likely online. If you aren’t familiar with how to do that, just ask your manager. Your pay stub will outline all of the taxes and other deductions that come out of your pay each month.
Other factors that impact your income: Tax deductions and exemptions can have a big impact on how much a person pays in taxes, which means two people making the exact same annual salary can actually have very different net incomes, based on various deductions and exemptions applied to their individual situation.
Here are a few examples:
- Tax deductions for people who work from home
- Tax deductions for people who are self-employed
- More on various tax deductions that may apply to you
Figuring out exactly how much money you have coming in
After you’ve taken a closer look at your paycheck, you should have a good idea of how much cash you have coming in each month.
If you get paid the same amount every other week, just multiply your last paycheck amount by two to get your monthly income — for budgeting purposes.
If you get an annual salary plus commission, add up your paychecks from the last three months and use the average to create your budget. If your commissions vary by season or you really can’t estimate how they will vary, use a lower estimate to set your budget, that way you can make sure the essentials are covered each month.
Here’s an example of how to figure out your gross monthly income (your income before taxes and other deductions):
- Divide your annual income by 26 (assuming you get a paycheck every two weeks).
- Multiply that number by 2.
Let’s say Joe makes $40,000 a year:
- $40,000 / 26 = $1,538
- $1,153.84 x 2 = $3,076
Joe’s monthly income, before taxes/deductions, is $3,076. Since there are a lot of factors that determine the taxes each individual pays, for the purpose of this example, we’ll assume Joe takes home two-thirds of his salary — which, again, is a generic estimate since individual’s circumstances are different.
But two-thirds is a good estimate once when you consider taxes and other deductions like health insurance and other things.
So now let’s figure out what Joe’s net income is each month (actual take-home pay):
- $40,000 x .67 (2/3) = $26,800
- $26,800 / 26 = $1,030.76
- $1,030.76 x 2 = $2,061.53
So, Joe’s monthly net income, take-home pay, would be $2,061.53. That’s how much money Joe has to cover all of his expenses, debt obligations and savings.
Figure out how much you have going out
Once you know how much money you have coming in, next you need to figure out exactly how much money is going out each month.
Go through all of your expenses from last month — literally, every single expense — and figure out exactly what you’re paying for recurring bills and obligations — housing (rent or mortgage), utilities, insurance, and other recurring monthly bills such as a cell phone plan, tuition, subscriptions (like Netflix or Amazon Prime).
Then go through all of your monthly debt obligations — so things like minimum credit card bills, student loan payments, car payments and other loan or debt payments you have to pay each month.
Finally, add up all of your other expenses, breaking them down into the other two categories: financial goals and flexible spending.
How much money did you spend last month on eating out, grocery bills, shopping etc.? Write down every single expense, including every coffee, movie rental, bar tab — everything.
How much did you save last month?
Sitting down and going through all of this may not be very pretty, but you must have a clear picture of exactly what you’re spending on in order to find ways to save.
If you get through all of your expenses and realize you saved nothing last month — that should be a big wake-up call! And that means it’s time to start prioritizing things — and eliminating unnecessary expenses that could be money toward savings.
Figure out where to cut costs
With all of your expenses in front of you, you’ll get a clear picture of where exactly your money is going. This will allow you to start reducing certain costs — starting with items that can be reduced or eliminated immediately — including things like subscriptions, shopping, groceries and even insurance and cell phone bills.
Here are a few examples and ways to reduce expenses:
- Fixed costs:
- Shop around for lower insurance rates.
- Best auto insurance companies
- Best home insurance companies
- Consider a cheaper cell phone bill.
- Best cell phone plans and deals for 2016
- Eliminate any subscriptions you don’t use and/or combine ones that provide similar services. Also consider sharing subscriptions like Amazon Prime and Netflix with family/friends to reduce the cost.
- See if Amazon Prime can replace your other subscriptions
- Request a credit card interest rate reduction
- Shop around for lower insurance rates.
- Flexible spending:
- Ways to cut grocery bills: use coupon apps, change where you shop, know pricing hacks & join loyalty programs.
- Go on a money diet.
4. Create a budget
Once you have an overview of what’s coming in and what’s going out, you can start reducing expenses and then create your budget based on what you should be spending on everything.
The less you spend on the expenses you can control, the quicker you’ll get out of debt and be able to save more toward your goals.
The budgeting process:
Now that you have a good grasp on every aspect of your money, you can create a budget that meets your personal needs.
Take your monthly income (take-home pay) and break it down into each area of spending. Let’s use the same example from above:
- Monthly take-home pay: $2,000
- Fixed costs: $1,000 (50%)
- Financial goals: $400.00 (20%)
- Flexible spending: $600.00 (30%)
Divvy up your paycheck to cover each part of the budget. If you want to go the old-fashioned route and pay in cash for whatever you can, you can use envelopes to split up your money — so you know exactly how much you have to spend for each category of the budget. If you pay for recurring bills online, make sure there is enough money in your account to cover them, and then withdraw cash to cover your other expenses.
If you tend to overspend, sticking to cash is a great way to develop better habits. And when you’re using cash, letting go of $5 becomes a little more difficult than if you were just swiping a card.
You can also set up different accounts for each area of your budget and have your paycheck automatically split among those accounts – sending enough money to each account to cover all the expenses in that category. Then whatever is left should go automatically into savings.
Once you take the time to understand what’s going on with your money, you can set everything on autopilot – only tweaking things as needed moving forward.
5. Track everything
So you’ve set your goals and created a budget, which is a great start, but if you don’t track it, that’s when actually sticking to the budget becomes nearly impossible.
Tracking your expenses is the best way to get control of your money — for a few reasons.
Making a mental note of your spending is not a reliable way to keep your budget on track, regardless of how good of a memory you have. In fact, it’s probably the worst thing you can do if you’re trying to get a handle on your money — because if you don’t track your spending, it’s difficult to keep yourself accountable.
If you want to stop living paycheck to paycheck, you have to give every dollar a purpose.
Tracking how much money is coming in versus how much is going out — and where exactly it’s all going — is the key to making smart financial decisions that have a big impact on your life both now and in the future.
And the good news is that tracking your budget can actually be super easy!
You can do it with a simple program like Excel, but there are also tons of apps and tools that will do it for you and keep track of each part of your budget throughout the entire month. These tools will even update you on your progress — like say, if you go on an unexpected shopping spree and it messes up the entire month’s budget OR if you make progress toward paying down a debt.
Seeing your progress is one of the best motivators for budgeting and saving. You can actually watch your life and your future change as you get closer to your goals each month.
And you can do all of it right from your smartphone (or tablet or computer, whatever you prefer).
Below is a list of some great tools that can help you create, maintain and track your budget — as well as your life in general!
Organizing your bills
FileThis is a great way to keep track of all of your bills and account statements in one easily accessible place.
Just link your FileThis account with all of your online accounts to get a complete overview of each account, download account statements and get alerted with bill due-date reminders. Pretty much any online account can be synced with FileThis, including banks, wealth, health, auto, utilities, communication and retail.
The app keeps track of your account statements from the past three years and downloads new statements as they become available. You can choose to have the documents downloaded to a number of different storage sites, including Dropbox and Evernote — or have them downloaded to your computer.
Creating a budget and tracking your spending/savings goals
- Level Money keeps track of your spending and gives you a sense of how you’re doing. If you’re looking for a free app to take your financial temperature all the time, this is it. It will probably work best for those who have relatively simple and linear financial lives.
- Mint is a very popular app that helps you create a budget and then tracks your spending, monitors your credit score and keeps up with potential fraud by automatically downloading transactions from bank, credit card and investment accounts. The service allows you to combine all of your finances in one place — giving you a constant overview of your financial status. You can also set up alerts and automatic bill-pay.
- Budget Boss is a highly visual app that uses graphs and charts to track your budget and goals. It also estimates your future account balances, depending on your current spending habits. Seeing positive progress and potential savings growth can be a great motivation to stay on track!
- HomeBudget (iPhone only) is an app that lets you manage account balances, budgets and bills. You can set up credit and debit accounts and track balances, and it syncs data with other iPhone users and can export to a desktop. Users can take a picture of the receipt and associate it with a “family sync” feature that allows members of the household to exchange information and work together within a single budget. It’s very visual and lets shared users see information quickly.
- Wally is a tool that gives you a “360 view on your money” — what comes in, what goes out, what you have saved and what you have budgeted. The tool helps you get a better understanding of where exactly your money is going, and then helps you set up — as well as track and achieve — various financial goals.
Paying off debt
- Pay Off Debt is a great app for people with multiple debts and who prefer an interface that’s simple, user-friendly and will help organize the details of those debts for you.
- Ready For Zero is a great tool if you need help coming up with a realistic plan that’s suited to your spending habits. The app is free and helps you customize and track your get-out-of-debt plan. After you add your financial info, RFZ analyzes your finances and suggests a debt-payoff plan that’s optimized for your needs and spending. Your plan can be based on what you are able to pay each month, and the tool will help you focus on the highest-interest accounts first, in order to get out of debt as fast as possible, you’ll also get a graph of your progress so you can see your debt dwindling as the weeks go by.
- DebtTracker Pro lets you organize loans and then create, manage and maintain a payoff plan. Once you sync all of your accounts, the app will: Track where you are in your debt repayment and tell you how long it will take until the loan is repaid; Allow you to play “what-if” scenarios by showing the effect of increasing principle payments; Show how much credit is left on debts that have a line of credit, which can be beneficial for maintaining your credit score since credit utilization is a factor. Downside: You may have to adjust some of the data frequently. For example, if it’s tracking a credit card you use often, you’ll have to adjust the balance a lot.
- Clark Deals: Our deals team finds the best deals and savings for you every day, including coupons, promo codes and the best deals from around the web.
- AllPoint is a tool that helps you avoid paying ATM fees, which are a huge waste of money! Whether you’re in an unfamiliar part of town or traveling somewhere new, this app will locate a surcharge-free ATM nearby and give you directions, along with landmarks to get you there.
- Key Ring keeps all of your store loyalty cards in one place so you never miss out on any rewards or discounts while out shopping The app also displays sales, coupons and other special offers available through those merchants and even tracks your loyalty points.
- Coupons.com lets you add grocery and drugstore coupons to your store loyalty cards and automatically save when you use them at the register.
- Swagbucks is an app that allows you to earn points for certain activities like shopping online, watching videos, searching the web and taking surveys. Then app then allows you to redeem your points in the form of gift cards to your favorite retailers or even get paid in cash via PayPal.
- PriceGrabber helps you comparison shop by finding you the lowest prices on everything from computers and electronics to groceries, health and beauty products, clothing and more.