In my previous column on money matters, we looked at minimizing payroll deductions and gaining “old-age insurance” through Social Security, but neither tactic will help if you routinely spend more than you earn. Let’s see what we can do about that.
Comparing income and expenses
My dictionary defines a budget as “a plan or schedule adjusting expenses during a certain period to the estimated or fixed income for that period.” That sounds way too complicated. Just focus on the words schedule, income and expenses. When you fit expenses to income over a period of time, you’re building a budget. It’s so easy, you’ll wish you’d tried it before buying that Norwegian timeshare.
Begin by making a list of what you expect to spend during the budget period – say, the next calendar year. You can do that manually or with a spreadsheet app. Go ahead, try Excel or whatever number-crunching tool came with your digital device. Spreadsheets are outside the scope of this article, but compared to cardiology, they’re not hard.
Consider these categories of expenses:
-
Food and drink
-
Clothing
-
Furnishings and housewares
-
Automotive
-
Commuting
-
Child care
-
Alimony
-
Charity
-
Mortgage and loans
-
Home maintenance
-
Utilities
-
Education
-
Insurance
-
Gifts
-
Grooming
-
Professional services
-
Recreation
-
Hobbies
-
Rent and leasing
-
Pets
-
Postage
-
Publications
-
Travel
No, I don’t have money to pay for all those things, but you might. Feel free to ignore what doesn’t apply and add whatever I’ve missed.
Be realistic with your estimates. Whatever you remember about last year’s bills is a good place to start. Take your time. You might find it easier to think in terms of monthly expenses, then multiply by 12. Here’s a small sample from one of my old budgets:
Notice how I used monthly amounts to set annual goals for utilities and food. Yes, I eat lots of food. When I think about how much I spend on food, I feel shame. And hunger.
Next, list all sources of income in a separate section; for example:
Be sure to consider self-employed earnings, if any; interest and dividends; cash gifts, tax refunds, and any other income you expect during the year. Be realistic; don’t include proceeds from a business you haven’t started yet or inheritance from anyone still alive.
Now you can compare total expenses to total income. By “now,” I mean ... now. Don’t wait until the end of the year. The sooner you start assessing what you’re spending, versus what you’re earning, the less money you’ll need to borrow to make ends meet. Review those figures quarterly, at least. Monthly would be better.
Avoiding extreme budget balancing measures
Warning: The following paragraph is only for readers who like to measure things and don’t have many friends.
One way to monitor your performance is to track every dollar you spend by category – so much for food, so much for clothing, etc. If you commit to all that recordkeeping, I promise you’ll get a handle on your buying habits, but you’ll miss family outings and scare the neighbors. I know only one person who tried such an insane exercise. I hated it.
A less-psychotic way to figure expenses is to add funds withdrawn from all sources: checks you cashed, checks you wrote, cash withdrawals and any other debits against your accounts. Don’t include money moved between accounts or buried in 55-gallon drums. You should get one number that covers everything you spent. Compare that to your budget for the same period and you’ll know how you’re doing.
The forecast: Income with a chance of savings
Tracking monthly income and expenses doesn’t just show the past; it can also help forecast the future. Here’s how:
Say it’s March 31st, your first-quarter earnings were $10,000, and you spent $10,500 during the same period. That means you’re short $500 year-to-date: not great but not horrible. Maybe that shortfall will even out during the second quarter.
But what if it doesn’t? What if you continued to earn and spend at the same rates for the next nine months? How far behind budget would you be by the end of the year?
There’s a formula for that. It’s easier than converting Fahrenheit to Celsius:
Forecast = Actual x 12 / Months
In English: To estimate your annual income or expenses, multiply year-to-date figures by 12 and divide by the number of months included. That means the $10,000 you earned in the above example would project to $40,000 (10,000 x 12 / 3) by the end of the year and your $10,500 in expenses would grow to $42,000, increasing your budget deficit from $500 to $2,000. That might be the difference between delaying a couple of bills and needing a loan.
Stockbrokers say past performance is no guarantee of future results. That’s true, but I don’t think we change our spending habits much from month to month or even year to year.
Whatever planning method you use, the idea is to check progress early and often. If income is greater than expenses, you’re in good shape; if not, try to cut spending on discretionary items, like shoes for your spouse. If you can’t reduce costs or add revenue, you’ll have to borrow money or draw from savings (if you have any) to balance your budget.
Savings – what a concept. We’ll cover that with investing next time.
[Read: EMS From a Distance: Money matters. Playing give and take with the government with tax prep, social security and retirement planning]
