There are two golden rules to budgeting:
Spend less than you earn; and
Borrow less than you can afford
Sounds simple, doesn’t it?! Hardly! One of the most common hurdles we encounter with clients is gaining a full understanding of their spending – we estimate only around 15% of clients have a clear idea of where their money is being spent as most people dislike the idea of a budget.
On a basic level, we have control over 3 facets of our ability to earn and maintain wealth – how long we work for, whether we invest to educate ourselves to increase our earning (income) potential, and…. this is often the hardest to manage… how much we spend.
The benefits of having an idea of expenses in comparison to earnings are clear. You will gain confidence when future decisions on spending are made (yes, I can afford this overseas holiday), you will be able to prioritise spending more easily (would I rather upgrade the car or pay the mortgage back 3 years faster) and you will avoid buyers’ remorse (OMG I shouldn’t have bought these shoes, I’m worried I can’t afford them).
Where to start? Best to define the difference between Budgeting and Spending Analysis
A budget is forward looking – an estimate of expenses over a specific period and Spending analysis is rear looking – it involves tracking what you have spent over a specific period.
There are any number of budgeting and spending analysis theories, tools and programs online which can then be overwhelming. I find a great place to start for my clients is to get them to split their spending between Non-negotiable items and Negotiable items. What appears in each list may change from client to client (i.e. holidays may become negotiable for some, whilst Foxtel to watch the football may be non-negotiable for others). Once the Non-negotiable items list is complete, we minus this from net earnings. This leaves the amount of funds left over to cover the spending items under Negotiable column.
This blue print allows the spending analysis to happen – is there enough left to fund the negotiable column? Is a rethink required regarding negotiable and non-negotiable items? Can money be saved on any of the line items (i.e. reviewing your Electricity bill / home insurance provider)? Am I saving enough off my mortgage to repay it before retirement?
This analysis is also the confronting part – am I borrowing from my future to fund the lifestyle I am living today?
Once the non-negotiable items are agreed and reviewed, it becomes as simple as dividing this figure by your pay cycle and setting aside this amount each period in a separate ‘bills’ account. Anything left over can be spent with the confidence and knowledge that you will have enough to cover your non-negotiable expenses.