The Simple Dollar offers a month-long plan for fixing your finances. All you need is an open mind and an hour each day.
For the last several days, we’ve been focused primarily on digging through our monthly expenses and looking for places to trim away some fat. It will take some time for this to become clear, so today we’re going to look at how you can refine your life budget each month as the expenses begin to move downwards – and the available cash goes upwards.
First of all, at the start of each month, you should refine your “life budget” a bit. What this means is that you should take out the budget you prepared the previous month and use that as a starting point to develop the next month’s budget. Since we’re nearing the end of the first month, I’ll walk you through this process once so you can get a feel for what should be done.
At the start of the month, take out your budget from last month and all of the statements you got in the intervening month. You’ll also need a clean piece of paper for the budget for the upcoming month.
The first thing to deal with for the coming month is your overall income. If your income this month is the same as last month, just carry the amount over to the new budget. If you got a raise that will start taking effect in the coming month, enter that amount on the new budget instead.
Next, deal with the expenses. Copy each expense (but not each expense amount) over to the new budget. Then, copy over each expense that you didn’t get a statement for in the past month. These expenses will remain unchanged.
Now let’s deal with the expenses with new statements. Rather than confusing you too much, I’ll give you an example of what to do to start with. Let’s say your past budget had an electricity bill for $100, but in the intervening month, you installed CFLs and did a few other things, and the new bill is only $80. Rather than celebrating and immediately writing the lower amount into the new budget, hedge your bets a little. Take the amount from the old budget and multiply that by 4, then to that add the amount of the new bill. Divide that number by 5. That’s the number you should write in for your energy budget for the coming month.
This trick is called weighted averaging, and it protects you from making significant changes based on one data point that may or may not be unusual. Over time, your energy budget will go down. For example, let’s say that for the next six months, your energy bill stays at $80, and then summer kicks in and your bill goes back to $100. If you use weighted averaging, the bounce back won’t hurt you at all, because you’ll have a bit of a surplus from months of slightly overbudgeting and it’ll be no problem at all to pay the bill. However, if it bounces back suddenly, your budget will be damaged by this sudden change.
If you’ve been diligent about doing trimming, you’ll probably notice that after a few months, your numbers for expenses are either staying the same or trending downwards. Even better, you’ll probably be seeing some surpluses at the end of the month beyond your budget. That’s great; just move those surpluses into a savings account so they can earn some interest, and then move them back out if you need them. Even better: your budgeted total for expenses for the month is also lower than it was before. What does that mean? More money to eliminate debts and dreams!
Now that you’ve seen a little drop in budgeted expenses over the previous month, you can allot that money towards the debts and the future plans on your budget. My advice is to channel them into more extra debt payments, but you might also want to bolster a long-term plan as well. At the very least, take half of that extra money and add it into paying off debts, because the freedom of being debt free is incredible.
So just copy over the debts and plans from the previous month, except add in the reduction in other expenses to the debt you’re focused on or perhaps also put part of it into one of the dreams. And you’re done for another month.
I like to keep my current budget posted in a place where I see it regularly, along with another big reminder: I use Excel to create a chart showing my expenses and debts going down each month. Seeing both of those lines heading south is a big reminder that I’m living a financially healthy lifestyle.
Tomorrow, we’ll look at some ways of managing your financial records.