How to budget properly?

Almost anyone could improve their financial situation by creating a good budget. It’s an easy way to take control of your spending without having to give up the things that matter to you.

Budgeting is a useful skill that could help you to pay off your debts, reduce your expenditure, or even save up enough money to pay for a much-deserved holiday.

Here we explain how budgeting could improve your financial situation and outline how you can make one that works.

Why should you create a budget?

Budgets are precise tools that can help you to bring your spending under control. They allow you to balance your income and expenditure, ensuring that you don’t spend more than you earn. Similarly, they can highlight what you can afford to spend and inform your purchasing habits.

Without a budget, you risk spending more than you can actually afford – potentially pushing you closer to problematic levels of debt.

How does a budget work?

Budgeting is a form of financial planning. It allows you to plan your saving and spending over a month or year. You can also use a budget to track your spending habits and to work towards major goals such as going on holiday, paying off your debts, or even buying a house.

Ultimately, a budget works by logging your income and expenditure in the same place. This resource can then be used to ‘balance the books’ and ensure that your spending doesn’t outstrip your income.

How to create a budget?

A good budget includes as much information as possible about your income and expenditure. With these figures, you’ll have a complete overview of your finances and be able to make smarter decisions that improve your situation.

Anyone can create a budget of their own by following these key steps:

1.     Work out your net income

To start with, you’ll need to work out how much money you earn each month. Your net income is the amount you earn after-tax, and it’s how much money actually lands in your account each month.

It’s important to include this in your budget since it will help to show you the difference between what you earn and what you spend. This in turn will give you an indication of what you can afford to spend.

If your income varies from month to month, taking an average could help you to get your budget up and running. All income should count towards this total, including any salary payments, child support, interest, dividends, rental income, and benefits.

2.     Gather all your statements and receipts together

A common mistake when making a budget is to guess how much you spend. Unfortunately, this approach means that your budget is likely to be inaccurate.

It’s much better to gather together all of your statements and receipts to get a more complete picture of your spending. From utility bills to fuel receipts, groceries to streaming subscription services and everything in between, the success of your budget depends on using the right figures.

This approach might take longer, but it’ll pay off in the long run when you fully understand where your money is going each month.

3.     Be accurate with your figures

While it’s tempting to understate your expenditure, doing so could prevent you from creating an accurate budget. The more accurate you are, the more helpful your budget will be – and if you do have to guess, it’s better to opt for a larger figure rather than downplaying how much you’ve spent.

If you’ve included car insurance under transport, don’t list it again under insurance or any other category, for example.

When recording your budget, be careful not to count each expense more than once. This too could make it seem like you spend more than is really the case, which could prevent you from allocating money towards paying down debts.

4.     Account for ‘one-off’ spends

It’s easy to log regular monthly spending, but things get a little trickier when it comes to one-off costs. It could be an annual holiday, a down payment on a new car, or some other luxury. It could even be that you’ve had to pay for medical or dental care.

You should still aim to include these costs in your budget since failing to do so could skew the figures and make it seem like you’re better off than you actually are.

One approach is to divide these costs into monthly chunks, but you could also apportion them as a single fixed cost over the entire year. You’ll also need to keep tabs on your regular spending when reviewing one-off costs since going abroad for a week could cut out your usual expenditure on groceries and fuel.

5.     Know the difference between credit card ‘debt’ and ‘spending’

Credit card spending can be difficult to log accurately since it doesn’t always fit neatly into any one category. While you can easily separate your council tax payments from personal loan repayments, it’s not always obvious where credit cards fit into a budget.

The key is to consider how you use your credit card. If you pay it off in full every month, you won’t usually accumulate any interest and instead are just using the money you already have. This counts as ‘spending’. Alternatively, if you don’t pay off your credit card bill as it falls due, you should think about recording that spending as debt.

How you choose to record credit card usage in your budget is up to you, but it’s important to understand how particular forms of spending can affect your wider budget.

6.     Analyse your spending habits

Utility bills and council tax payments are generally quite consistent, but to really understand your personal finances you’ll need to take a deep dive into your spending habits. This means analysing what you spend your money on and being realistic about setting limits on any given category.

Tracking your spending over a month or longer can help you to understand whether the rules you set in your budget are realistic. You can do this by recording all of your spending – whether manually or by using one of the many apps available.

Once you have a better picture of your spending, you’ll be able to decide which areas (if any) can be improved upon. While you might not have much room to manoeuvre when it comes to buying a monthly rail pass for commuting to work, you may be able to start taking your own food rather than buying lunch out each day.

It’s these small changes that make budgeting so powerful, as together they can add up to a significant saving.

7.     Set goals

Before you can start making targeted changes to improve your finances, you’ll need to set goals. These objectives will give you something to work towards while also helping you to measure your progress.

It may be helpful to break down your financial goals into the long and short-term. Short-term goals should usually take a year or less to achieve and might include paying off some of your debts or saving up for a holiday. Long-term goals could take many years to achieve and might include things like saving for retirement or paying off your mortgage.

Whatever your goals may be, it’s important to be realistic and to understand that your priorities can change. These objectives don’t need to be set in stone, and they’re useful primarily because they give you direction and something to work towards.

8.     Adjust your habits

Once you’ve set goals and crunched the numbers, you’ll be equipped to start making changes that reduce your spending, increase your income, and improve your financial outlook.

Budgeters often find that cutting spending is the easiest place to start. It might be that they reign in their social spending by opting for more nights in, or even shop around a little more each week when buying groceries. From there you can start to make more lasting change by swapping utility providers and using comparison websites to find better deals.

Budget carefully to avoid debt spirals and improve your finances

Budgeting is a helpful tool that can help you to improve your financial outlook. It’s the single best way to get a handle on your money and to understand how your income and expenditure stack up.

Crucially, you could avoid a debt spiral if you approach budgeting in the right way. Without a full picture of your finances, you could easily end up spending more than you earn – eventually needing to borrow money to pay for essential expenses. Conversely, a budget could equip you with all the information you need to make smarter decisions.

Through careful planning, self-discipline, and consistency, you could avoid debt and start working towards your financial goals.

Get help with debt problems

If you’re struggling to cope with existing debts, a simple budget might not be enough. Rather than struggling on alone, you could get help dealing with debt, avoid getting into debt and work towards a healthier financial position. The organisations listed below provide free and impartial financial advice, and could help you to overcome any debt problems you may have:

• www.moneyhelper.org.uk
• www.stepchange.org