Why should you create a monthly budget?
Think of yourself as a CFO of your family. Like a company’s CFO uses the cash flow statement to make money decisions for the company, a monthly budget can benefit in the following ways:
- Helps you get an accurate picture of your financial situation and savings potential
- Saves you from sleepless nights worrying about your finances – once you are clear, you can take action
- Makes you aware of unhealthy money habits
- Helps you make a plan for reducing expenses and finding out new sources of income
- Helps you determine the size of the emergency fund
- Protects you from costly credit card debt and personal loans
- Helps you start investing for your financial goals instead of letting the money lie idle in a savings account
5-step guide to creating a monthly budget
Step 1: Calculate your monthly net income
Step 2: Calculate your monthly expenses
Step 3: Calculate monthly savings
Step 4: Create a budget and goals
This is the most crucial step. In this step, you need to critically analyse the monthly cash flow. You can rely on the 50/30/20 rule, which says that you should spend 50% of the income on necessities, 30% on wants and 20% on investments.
Suppose your monthly savings amount is negative or in a low-positive range. In that case, you need to take steps to increase your income sources and, at the same time, decrease any discretionary expenses.
After doing the analysis, you can arrive at a monthly budget that clearly lists the expected income, expenses and savings. Now that you are clear on the savings, you can plan your investments (for example, activate SIP in good mutual funds).
Step 5: Track your progress
Some tips on creating an effective budget
Below is a list of some helpful budgeting tips that can increase the effectiveness of budgeting exercise:
- Try to automate your monthly investment. For example, you can do a SIP in 2-3 mutual fund schemes or invest a fixed amount at the start of the month. This will help you clarify how much money is left for spending for the rest of the month.
- If you get an impulsive thought to purchase a gadget, estimate how it will impact your budget.
- Nothing works like a reward – at the end of each month, treat yourself to something as small as a bar of dark chocolate or a cosy meal with your wife.
- If you have irregular income, you can observe the income and expense pattern for a few months to find an estimated monthly amount.
- As the legendary investor Warren Buffet said, do not depend on a single income. Try to build additional sources of income.
- Keep a buffer of 10-15% in your expense calculations to take care of emergency expenses
- Use the expense calculation to build an emergency fund equivalent to a minimum of 6 months of expenses.
- Allow the budgeting exercise to raise your awareness of destructive habits like smoking, gambling, excessive shopping etc., and make action plans to remove them.