More and more schools are introducing introductory personal finance courses at all levels of education. And it’s essential. You should probably know what it takes to retire with money in the bank, what the stock market is doing today, and how to make appropriate, calculated decisions. Generating enough money and living within your means is the right message. Understanding the necessary skills to obtain your desired career is a part of the equation. But what about the day-to-day? What about what you do today? What about if you now have debt because of the skills you need to obtain? What if you have debt because your current skillset does not pay enough?
Much of the education around personal finance skips or glides over the most important aspect: what do I do to improve my situation today? I spent six years obsessing over this question. Once I found the solution, I was able to pay off over $50,000 in debt in a little over two and a half years. There were quite a few lessons I learned along the way. However, six principles were the most important factors to consider when creating my budget.
Income and Projected Income
It sounds obvious, but you would be surprised how many skip over this part. Budgeting is as simple as money in and money out. If you increase the gap between the two, you can guarantee financial stability and eventual freedom. Hence, income is so important. In real situations, increasing your income is often more realistic than decreasing the bills you’ve probably already pruned to the basics.
If I were curating the best possible budget, I would go deeper than gross income. Most jobs will handle taxes, but if not, that is the first thing I would handle. I account for all pretax and post-tax deductions. I need to get down to the net paycheck amount.
Next, I account for the frequency of payments. Regardless of country, the four main types are weekly, biweekly, semimonthly, and monthly. Once I have a net paycheck and frequency, I throw all other numbers out the window. My gross income no longer matters; my net paycheck is multiplied by the frequency of a year. For example, biweekly will have 26 checks a year. If I get $2,000 net every paycheck, I have $52,000 to live on that year.
The most important thing I would take away from projecting my net income is that if I do not know that my income will be precisely the same every time, I will, without a doubt, underestimate my income. The amount that I will underestimate is more about my appetite. If I enjoyed budgeting, which I do, I would have tighter tolerances. However, The more you underestimate, the more control you have. For our example, I would plan to have $1,975 or maybe even $1,950 net per paycheck.
If I knew I could count on a yearly raise and a minimum increase, I could project out farther. In our example, we’ll skip gross income for simplicity, but if I knew I could count on a 3.5% yearend increase, I would anticipate $2,070 per check for the second calendar year of my budget ($2,000 multiplied by 1.035).
I would do a few things if I worked a commission-based job or did something like serving, where I might get paid weekly. First, I would rather estimate a weekly average, calculate a weekly average based on the last few weeks/months, or take my minimum over the last few weeks/months. Remember that the closer to true creates less error tolerance, so I would choose the third. Second, regardless of which option I choose, I would then lowball that number. If I knew I would walk away with at least $400 that week, I would lowball around $350 or $375.
When I Get Paid
Timing will work hand in hand with your income, but it is vital for the equation. Frequency works with this. If I know my next check will be June 1 and I get paid biweekly in our example, I would get a list spanning as long as I want my budget starting with June 1, June 15, June 29, July 13, etc. I would do the same for the others if I had multiple incomes to account for in my budget.
If there are too many close checks, my rule would be to aggregate to the last check within five days. In English, if my paycheck dates end up being June 1, June 5, June 11, June 15, June 29, July 3, July 13, and July 14, then I would aggregate checks something like June 5, June 15, July 3, and July 14. It’s not necessary, but it would help my sanity.
Recurring Expenses
To make things simple, recurring is something that you must pay generally the same amount monthly. If it has an amount you must pay and a hard due date, it is recurring. This will be things like rent or mortgage, utilities, streaming subscriptions, car insurance, daycare, etc. It is important to separate this from other expenses as these are inflexible.
I would then separate which of these have a fixed amount. Things like subscriptions fall into this category. I can count on Peacock being $9.99 every single month. However, I cannot count on my electricity bill being $150.38 every single month. This is where I would do two things. I would get my average over the last six months or one year and the high over that time.
If you wanted to get into the weeds, you could get the average and highs per season. Unlike the lowball done for income, I would highball the highest amount. If my average electricity bill is $149.39 and my highest month was $160.39, I would take that $160.39 and budget $175 a month for that bill.
This action will do two things: it will eliminate any future surprises and force me to constrain my budget.
Reoccurring Expenses
Reoccurring expenses are things you need monthly, but the amount is allowed to vary. Generally, things like groceries, weekend spending money, and gas for your car fall into this category. You can look at it this way: My water bill can vary, but I still need the total amount every time. I don’t need $100 for every check for weekend spending.
This category is intended to be the first to reduce in the event of an overleveraged paycheck. If I have used $1,920 of my $2,000 check before I reach my weekend spending budget, I can live with $80 instead of $100 for this check.
For this category, I would only sometimes highball every expense, at least in mentality. I might want to highball my groceries if I have kids to feed, but I may budget an exact amount for a weekend spending budget or maybe even lowball it a little, depending on holistic importance.
Debts
My obsessive need to relieve myself of debt developed my budgeting habits. I was so obsessed with freeing myself that it was all I cared about, especially within the budgeting process. Lenders will never help you because they make their money banking on you not knowing this secret.
Whatever your minimum payment is today, pay that amount through the end. This will be the first step in accelerating your payoff. If I already spend around $250 monthly on this, I can afford to pay that every month.
If I have $15,000 in debt, it may take me 30 years to pay it down if I only pay the minimum payment the bank generates. If the minimum payment today is $250 and the interest is 5%, I could pay that same debt in under six years without changing a thing. And this is where the magic happens. If I have multiple debts, I would accept that the “pool” of money is accounted for until I’m out of debt.
For example, if my minimum payments today are $250, $250, $250, and $250, I would always have that $1,000 allocated to debt payoff. When the first debt pays off, my payments would go to $500, $250, and $250, and so on, until I have one debt left, and I’m paying $1,000 a month until completion. This is the basics of a debt avalanche.
Appetite
It’s time to put everything together and create the budget. If my income is $2,000 a paycheck and I get paid biweekly, I estimate my monthly income as $4,000. No, I do not care that some months with a biweekly schedule have three checks; it does not fit my principle of underestimating income. I would then subtract all of my expenses from that number. Let’s say recurring is $1,400 in total, and recurring is $1,200 in total. $4,000 – $1,400 – $1,200 = $1,400.
I would then, with the sum of minimum payments in mind (i.e., $1,000), decide how much I would like to save and how important the speed of debt payoff is to me. If I decide debt payoff is a top priority, I may decide to pool $1,200 for debts and $200 for savings. If I want more savings, I may stick with $1,000 for debt and $400 for savings. There is no wrong answer; it is just whatever you can digest.
Once I have budgeted monthly estimates, I would go check-by-check, ensuring all bills are paid on time. The timeline you work on is subjective. If you want to plan for a new housing lease, you should budget the entire lease. If you know your debt will take three years to pay off, you could make the budget three years.
Furthermore, I would then make 1 or 2 other budgets. I may be targeting $1,200:$200 debt to savings, but I will also plan $1,000:$400 and $1,300:$100. I may even estimate two different incomes, keep the target debt pool the same, and then adjust the savings based on the additional or lack of income. This will take more time, but it will reveal which budget you should actually choose.
Budgeting doesn’t have to be challenging, but your level of effort upfront correlates with the amount of editing and adjusting you’ll need to do later on. If you underestimate your income and overestimate your bills, you can almost guarantee a monthly income that is unaccounted for and feels “free.” A solid budget can improve your stress and your life if you know that no matter what, you have a bulletproof plan for the future.
