Thursday, August 14, 2014

Why Do I Need a Budget?

When most people hear the word, “Budget”, moans and groans generally follow. WHY IS THAT? For starters, staying on track can be difficult while life events derail your best intentions.  Secondly, having a budget sounds so restrictive that people feel BOXED into a corner.  BUT really a budget is intended to keep you and your money on track.  Most people are fooled into believing a budget is a one-size fits all. NOT TRUE.  Your budget has to be tailored for your family needs.

 The way to get started is to quit talking and begin doing.  ~~Walt Disney

If you procrastinate in creating a budget, the road ends here. Enough talk and a little more action.  GUESS what?  It is not difficult if you have some sound guidance.  It’s as easy as 1-2-3.

1. LOOK at your month-to-month expenditures.  FIRSTLY, they can be easily labeled as:  Shelter, Basic, Discretionary, and Transportation. Placed into one category, these are your LIFESTYLE NEEDS.  The very things you spend your money on day-to-day.  SECONDLY, you may have a loan, credit cards and mortgage payments.  These totals formulate your DEBT.  LASTLY, you have your SAVINGS.  Your list may include long term savings for retirement, education, vehicle replacement, vacations and short term savings for annual expenditures (property insurance and taxes), emergencies, appliances and furniture.

2. FOCUS on only the three categories.  Together as a couple (or single) can be involved in the next important step, determining the percentage allocated to each of the three categories: Lifestyle Needs; Debt Repayment; and Savings.  Initially, prepare to divide your combined net income(s) -- your take-home pay/after-tax income (whatever you call it).  Work with 10 dimes to represent 100% of your income. Each dime represents 10%. YES, this appears elementary but it works! It’s an easy way to determine the percentage to each category by physically shifting dimes with 10% increments, for example: 60% Lifestyle Needs; 20% Debt Repayment and 20% Savings.  Because you have an estimate of your monthly expenses you have a fair understanding of your allocations.  However, the challenge is whether you can reduce our lifestyle needs (primarily in discretionary spending) by 10% in order to allocate this percentage to Savings (i.e. family vacation)? Perhaps your focus is to reduce debt, is it possible to shift 10% from Lifestyle Needs to Debt Repayment?  Regardless the amount assigned to each category is tailored to fit your needs. 

3.  STRUCTURE your bank accounts to align with your specific categories.  This is your budget in its simplest form.   

The following illustration shows all deposits from your income (employment, sales commission, pension, CPP/OAS) directed to an account, designated as the Collection Account. (This can be either a chequing or saving account depending on the service charge package offered.) From the Collection Account, a specific transfer is created to cover your monthly lifestyle needs.  You are restricted from touching any extra cash designated for debt repayment and savings.  In essence, you are giving yourself an allowance, a similar process given to children. This method offers protection from you. (In some situations, you are your own worst enemy. Having too much money in a chequing account can be dangerous.)  Therefore, you can only spend the amount you give yourself in your designated LIFESTYLE NEEDS account.  Because you can check the balance of your account regularly, you always know “when you get close to being busted.”

Your loan, credit cards and mortgage payments are made directly from your Collection Account (the account where your incomes are pooled). Likewise the same process is followed with your savings.  All you need to do is ensure you stick to the allocations assigned to each of the categories.

At the beginning of this process the percentage designated to your debt repayment may be significantly higher; but as you pay off debt, the shift can be made to increase savings. If you receive pay increases, the percentages will increase accordingly to your net income.

The trick to saving is easy {out of sight-out of mind}.  Do not allow yourself a savings account you can access easily UNLESS you are extremely disciplined… or if the account is specifically earmarked as Emergency Savings.  Only you know for certain what an emergency is.  NO EXCUSES.  Otherwise, set the transfer to a mutual fund (for short and long term savings).  You can visually see the balances on-line; but you would physically have to visit your investment advisor to make a withdrawal.  The harder the access, the less the temptation.  As you watch your savings grow, imagine paying for the vacation or new vehicle with this money.   Putting your life on automatic is SO EASY with pre-authorized transfers straight from your Collection Account to designated investments (RRSP, TFSA, RESP, Non-Registered Savings) for specific purposes.  You can equate this to making loan payments to the person who deserves to be paid the most – YOU! 

ROOM for modification is a must.  Remember the tag line: one size doesn’t fit all.  
  • If joint accounts don’t work for you; then the set-up can be modified so you share at the very least the lifestyle expenses as a percentage of your incomes. 
  • If you work together well as a couple, then one spouse’s income could be designated solely for lifestyle needs; while other pays down debt and contributes to the savings.
  • If you like, set up a “Crazy Money” allowance.  This amount is your permission to blow anyway you choose:  Beer with the boys.  Rendezvous with the girls at a spa.” You decide – you don’t have to report to your partner where the money went all you need to do is stay with your limit. Happy Husband; Happy Wife makes for a Happy Life.
HERE COMES THE CHALLENGE AND REWARD: You may have a budget and are proud because you have taken this important step. If you struggle with making this work, you can always seek help from your financial planner.  This is one of many ways a financial planner can help. The end result is if you spend wisely, pay debt diligently and save faithfully, you can have everything you really want.           

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