Whether you are comparatively well off and snowballing, or very broke and going bankrupt, you need to budget. Even when you are out of debt, if you have goals you want to aim for (house deposit? adequate pension?) then a budget will still help.
Perhaps you find the idea boring or bothersome and you’ve never tried it. Perhaps you’ve had a go and failed. Perhaps you still try but it never seems much help. But smart budgeting will make tackling your debts easier and it will make you feel more in control, so you don’t have to reach for the plastic when it’s Xmas or car insurance renewal time.
Types of spending
It’s useful to divide your spending into four categories:
- those which are the same amount every month (rent/mortgage, council tax, insurances you pay monthly etc);
- those which you pay every month or most months but which are variable (food, toiletries, petrol, entertainment, clothes);
- those which aren’t monthly, but you know they are very likely to occur. These may be quarterly or annual (Xmas, birthdays,TV licence, water rates, car tax, train season ticket) or more irregular (boiler breaking down, new tyres for the car); and
- the “unknown unknowns” – things that you aren’t expecting at all.
So make a list of everything you spend money on, allocating each to one of the 4 categories above, and put £££s against each, using your recent bank statements and credit card statements to jog your memory.
You may later want to put some categories together, deciding for example that you don’t need to have separate lines for ‘entertainment’ and ‘eating out’, or split some up if you realise the reason your supermarket spends are higher than expected is because of all the toiletries that somehow creep into your basket without you noticing. But for now, just make a list and don’t fret too much about this.
What is the difference between this budget and the Financial Summary?
Not much so far! In fact it’s a good idea to put the long list of things you have just made into the Financial summary calculator as a reality check, to see what you may have missed out. The real difference is that a Budget should be an active monitoring tool, helping you make decisions through the month, not just add things up at the end.
For most people a good approach is to mentally deduct all the first category from your income each month and to have them set up to be paid by direct debit or standing order. Not only are these regular and predictable, but they are normally essential things. If you have just one main monthly income consider trying to move the timing of your payments so they are in the week after your payday.
The second sort of expenses need to be monitored against a budget you set. So you have just seen a useful looking top for work in a Sale at £18 – should you buy it? Your monthly Clothes allowance is £40, but do you know how much you have already spent of that?
The third sort need to have a budget set and money put aside for them every month into a savings account – these are not ‘unexpected’ items and they need to be managed. If you don’t have a budget that you use, then these expenditures which you knew would happen all too often turn into emergencies. See if your bank will let you have more than one e-savings account. Many banks such as Nationwide let you do this and give them names, so you can have an account called “car expenditure” where you save money each month for car tax, car insurance, MOT and maintenance costs.
The longer you have to budget for, the more things you have to put money aside for. If you are looking at the 5 years for an IVA, during that time you are going to need more than one pair of shoes and the chances are at least one large electrical item will have to be repaired or replaced. Over a 10 year timescale you need to include replacement furniture, mattresses, towels etc. If your car is already elderly, how long will it last for?
For the ‘unknown unknowns’ you need an emergency fund. If you are single with no car and renting, you may feel that £15 a month is adequate. If you have a car and a house then it needs to be at least £30 a month, preferably £50. If your emergency fund ever gets really large, then of course you can stop adding to it and pay off your debts faster.
If you have a credit card that you don’t use with spare credit on it, then you may decide to use this as your emergency fund rather than save up cash, because this lets you use that cash to pay off your credit card balances sooner and so save money on interest. Other people feel this is a slippery slope to more debt and they prefer the security of having rainy day money in the bank. If you are going to keep a credit card for emergencies, then you need to be VERY sure that they really are unexpected items. A guttering problem that has to be fixed is an unpredictable emergency – your car needing to be insured is not!
Tools to track your spending
Your grandparents used a pencil and paper and it worked!
The modern equivalent is a spreadsheet that records what you have spent against the amount you planned to spend. This has the big advantage that you can tailor the categories to the things that matter most for you. It’s also simple to track what each of you spend if you have a partner. If you always keep receipts, then entering them into the spreadsheet can take a few minutes a day or be a regular 20 minute task on a weekend morning.
10 years ago, home finance budgeters normally used either MS Money or Quicken. The former is no longer supported by Microsoft, but you can get free versions if you google MS Money Sunset edition. Quicken is still going, but no longer interfaces with British bank accounts. For people who have run their finances through one of these, this is very tiresome – you could try looking at Bank Genie if you want to switch from one of them.
But if you are new to budgeting, you may as well just skip straight to mobile apps. You need to find one that works with your phone and your bank and which feels right to you. Start by looking at the following three:
OnTrees – this is aimed at the young and single market and is popular with students. It’s simple and intuitive to use and has some good user reviews and app ratings but doesn’t interface with RBS/Natwest at the moment. It’s free.
DollarBird – this doesn’t interface with your bank account but lets you set up incomes and expenditures round a calendar style application. It’s $1.99, so if it works for you, that’s money well spent.
YNAB – this is more than just a phone app to let you manage your money, it is orientated round getting you out of debt. They run online ‘classes’ so you could drop in on one and see if it appeals to you. It is very American, but Debt Camel knows several Brits of different ages who swear it is the best thing they have ever found, see their reviews of YNAB here. The downside is that it costs money – ouch. Try the free trial first to make sure you and it will really work well together. Also check out Steam, where you can sometimes find it on offer.
The envelope system
Some people are happy with budgeting for irregular items and a rainy day fund, but hate the idea of tracking £2.49 spent on bread and milk on the way home from work. If you need a fool-proof approach to the everyday expenses, then you could fall back on the simplest system of all – cash in different envelopes or pots – sometimes called piggy banking. You may decide that you have three main types of routine spending: petrol and bus fares; groceries and toiletries; and entertainment. Withdraw those amounts on pay day, and put them in three separate envelopes. That way, you can easily track how much you have left for each of these expenses, and when you are close to running out of money, you know it immediately. This can work well for a couple.
Budgeting gets easier the more you do it
The first few months you are probably going to be scrambling around for some infrequent items because you haven’t been saving up for long enough for them. One way to cope is to cut back on your optional spending on things like entertainment and clothes for a few months. If you can get through these difficulties, in September next year when all three children need new school shoes and uniform and two need football boots then you will have the money saved up ready. It really is worth it!
Any budget is better than no budget!
It doesn’t matter if you start complicated then realise how to simplify things, or go for a simple approach and then want to add bells and whistles. If you are looking at your finances at least once a month and checking what you have spent, you are more in control of your finances than 80% of the population! And your debt elimination plan is MUCH more likely to succeed.