A few years ago, I remember quite vividly looking through my checking account and bill statements and feeling overcome with nausea. The numbers just weren’t adding up. The credit card balances, while not maxed out, were slowly growing each month. I was clearly living beyond my means. It’s an easy trap to fall into, particularly when you live in an expensive city like Los Angeles. My lifestyle inflated to match my growing income, sometimes surpassing that income ever so slightly. I knew I had to do something about it immediately; this couldn’t wait.
In fact, many people I speak with don’t seem very certain about where their monthly paychecks actually go. They know the money disappears, but aren’t really aware how it is spent. This lack of awareness all too often results in the accumulation of debt. And that debt keeps growing until a crisis hits. Maybe it’s reaching the limits of their credit cards and getting rejected for a higher limit. Or, getting slammed with some unforeseen financial emergency that they can’t afford. But, sooner or later, a spending crisis will happen.
The most direct way to combat this loss of financial awareness is to create a straightforward monthly budget. This is really the only thing you can do to fully capture the spending problem. The details of the budget, which we’ll get to in a moment, have to include all of the facets of your life. If the budget isn’t realistic, it will feel almost impossible to follow. So, before you put pen to paper, you have to figure out exactly where all the money is going. I did this by studying my checking account statement and my credit card statements. I recorded every single expense I found, including cash withdrawals. Of course, I knew what each of the major expenses were, but the seepage around the edges of my finances was slowly destroying my future. I was truly appalled at how much I was spending on food and incidentals, like coffee and clothes.
Armed with this information, I went to work laying out a workable budget. Without first examining my exact expenses, I would have surely missed a few seemingly innocuous expenses that would have added up to a sizable oversight. The resulting budget looked something like this:
A few key notes here:
As you can see above, I have two basic spending plans. The first column is what I was actually spending, so I could see how far in the red I was on average each month. The second column is what I felt I could reduce my expenses to while maintaining a similar lifestyle. The top income line is meant to be my true take-home pay, after all taxes, 401K, and HSA deductions are removed.
My car expenses line is the three-year monthly average of what it takes to maintain my car. Keep in mind here, as I’ll discuss in another post, I like to do minor to moderate repair jobs myself. This DIY approach can drastically reduce your car-related expenses. I want to include more detail on car expenses here since cars represent such a large expense for so many people. The breakout of total car expenses look something like this:
The other line that needs a bit of explaining is the miscellaneous expenses. This is basically a catch-all for a variety of expenses that can happen from time-to-time. I calculated the monthly average by listing out the items I saw separately:
That gives you a pretty good idea of how to structure a typical monthly budget. You can simply tailor the table to match the types of expenses that are in your life. Creating this budget, and going through the crucial exercise of examining what your real spending is, is the first step in getting your financial house in order. As you get more comfortable running and living within a budget, you may want to lay out a specific monthly budget for each month. This will separate out each month of a given year rather than using broader averages. Separating the months out can be particularly valuable if you have large swings in spending during certain months, like a child’s summer camp or other planned expense.
Once I created a real monthly budget, I was really able to drastically change my spending patterns. Having the numbers in my head, I really paused before making the on-the-fly purchases that were ruining my savings rate. A fairly detailed budget will also allow you to plan for major future purchases, like buying a house. Simply plug in mortgage and insurance amount into the housing line and examine the impact. And, as my life evolves, I update the tables and stay on top of things.
A major reason I wanted to write a blog in the first place is to reach out to people and give them some of the tools that have worked for me. Remember, the eventual goal here is to get your finances in order so that you can begin building more sizable wealth. This budget planning will eventually allow you to allocate a larger percentage of your take-home pay into a savings/investment account. So, go ahead and take the first step.