Financial freedom- what is freedom? Is it not allowing anyone to control you? Is it refusing to comply with social norms? Is it being able to do what you want to do when you want to do it? Is someone whose heart is filled with selfishness free? How about an angry person who can do what they want when they want? Is the angry person free?
Freedom is choosing to do the thing that allows you to love in the greatest manner. This is emotional freedom, physical freedom and the thing we are learning about today, it is financial freedom.
What is a budget? Deciding how you will spend your money and keeping track of how you spend your money are two different things. A system to keep track of how you spend your money is not the same as a system to limit your spending and keep you on budget. These are three different things. I am going to show you the simplest way to do all three.
Budgeting money is similar to time management. If I don’t decide in advance how the hours of my day will be spent and determine what I expect to get done with those hours I find time flies by with my attention consumed by tasks that seem very interesting or urgent but, in the end, don’t amount to much. Time management works when we decide in advance what must be done and when we will do it. The process requires us to ruthlessly say no to constant distractions. You have important things to do and you need a process that puts an end to being slowed down by issues related to money. Here is the process that has worked for me for many years and has been the foundation of stress-free financial success.
Write one to three things which are very important to you but are not currently possible due to spending that is out of control. These are things that you can realistically do with your present income but which your current expenses do not allow. If you have a spouse it is very important that you each have a very important reason to do this. It is best if you both have the same reason. It is critical that you both have at least one reason.
- __________________________________________________________________
- __________________________________________________________________
- __________________________________________________________________
Dream time- What will life be like for you in ten years if these three things become reality?
Write down your monthly income and expenses.
Income __________ (the total of all of your take home pay and bonuses)
Charity __________ (giving to church and other organizations)
Savings __________ (10% of your net income)
Housing __________ (all housing costs including taxes, utilities, insurance, & repairs)
Transportation __________ (all transportation costs including loans, insurance, fuel, & repairs)
Food __________ (groceries, toiletries, paper goods, laundry and vitamins)
Health care __________
Clothing __________ (include everyone in the family)
Fun money __________ (eating out, movies, concerts, vacations, etc)
Personal money __________ (spending money, hair cuts, makeup, etc)
Home furnishings __________ (kitchen, laundry & yard equipment, bedding, furniture etc)
Pet care __________
Gifts __________
Children’s activities __________
Telephone __________
Internet & media __________
Debt __________
Other __________
TOTAL EXPENSES __________
GRAND TOTAL __________ (subtract your total expenses from your income.)
If your grand total is not a positive number reduce expenses until it is. Do not reduce your savings. I have created a spreadsheet to do the math for you. Click here to get it.
We often overspend or buy unnecessary things for emotional reasons. We think we need something to be satisfied or that we deserve something because we have worked hard or had a stressful day. Perhaps your spouse bought something and now you get to do the same to even the score. There is also peer pressure. Keeping your focus on the big things that super important to you is necessary to overcome these tendencies. If it was easy everyone would do it and Starbucks would be out of business. The lines at Starbucks are quite long but you don’t need to be one of them. I have many friends that found themselves spending more than $1500 a year on coffee. I’ll let you decide how rational that is.
Do you have one week’s take home pay in your savings account? If yes, good. This is now your emergency account. Don’t touch it except for emergencies. If not use your savings to build up an account. Eliminate all unnecessary expenses until you have your emergency account funded with one week’s pay.
Once you have your emergency fund begin paying off your debts. Use your savings fund on your budget and every bit of money you can get your hands on to make extra payments on your debts. Focus on one of your debts that you know you can get rid of. Pay it off and then focus on the next one. Do you have debt on a car? Can you sell it and buy a cheaper car with cash? Do it. Someday you will be able to afford a very nice car and you will be able to pay cash for it. Don’t cry over past mistakes. Eliminate those mistakes by selling them or paying them off.
Saving and paying off debt results in you having less exposure to financial risk. There are catastrophic events which can ruin you. Consider what a major health issue, death or a law suit could do to you. Cover these risks with insurance.
Once you have paid off your debts, except for your home mortgage if you have one, it is time to increase your emergency fund. Save three months total take home pay. Do you have a job where it is likely that you could be laid off for the winter or is your job not secure? Increase your emergency fund to six months of total take home pay.
Now that you have paid off your debts and you have a huge emergency fund, create a new category, automobile replacement. Someday you are going to need a new car. Now that you are out of debt, stay out of debt. Save the money in advance. When you need a car use the money you have saved. Do not spend more than you have saved.
The same principle holds true for vacations and entertainment. Save the money first and then choose how you will spend it. Do not put your expenses on credit cards and wait to have the money to pay off the card.
Now it is time to invest. Use your savings and all of the money you used to spend on debts to invest. It is time to put your money to work and earn something it gives back to you.
Let’s get back to the budget. How do you actually use a budget? Expenses fit into two categories
Expenses you can control and Expenses you cannot control
Expenses that you cannot control are typically ones that get paid out of your checking account. These are things such as rent or mortgage payments, utilities, loan payments, telephone, and internet.
Expenses you can control are things such as fun money, clothing, personal spending money, etc.
Get a bunch of envelopes.
Write the name of an expense category that you can control on each one. Write how much money you get each month in that category on the envelope. Now write the amount of money you will put into that envelope each pay period on the envelope. If you get paid weekly multiply your monthly expense for the category times 12 and then divide it by 52. If you get paid by-weekly multiply by 12 and divide by 26. If you get paid twice a month multiply by 12 and divide by 24. This is the amount of cash that you will put into this envelope every time you get paid. Do this for each envelope. You and your spouse should each have your own spending money envelope. You should now have an envelope for each category with two numbers on each envelope. Take another piece of paper and write the numbers $20, $10, $5, and $1. Look at each envelope and what currency denominations you want to put into the envelope each pay period. If an envelope gets $40 each pay period you can get 4 $10s or 2 $20s, etc. Make a mark next to the $20, $10, $5, or $1 for each currency bill needed for each envelope. Now add up the marks and when you go to the bank withdraw that amount of each denomination. Go home and fill your envelopes. Now you are free to spend what is in the envelope and when there is no money left in the envelope, stop spending. If they are truly controllable expenses you may move money from one envelope to another.
Each month check to see if your non-controllable expenses are the same as what you have budgeted. If they are more, adjust your budget and reduce controllable expenses if necessary.
The budget is a tool to accomplish what you have decided to accomplish. You are the master. You are the one choosing what to do. You are not in control when you are buried in debt or spending all of your money on things that don’t amount to anything. Take control of your finances.
I have found that the great majority of my expenses are the uncontrollable type. This leaves very little to cut in the process of trying to make my budget work. The term squeezing blood out of a turnip often seems to apply. The reality is that is can be easier to make more money than it is to cut expenses once you eliminate the low hanging fruit like coffee shops, food as entertainment and expensive vehicles. Take for example that you take home $3,000 a month and that you have no control over $2,100 of your expenses each month. That leaves you with $900 of discretionary (controllable) income. If you were to increase your take home income by 10% you will have $300 more each month in discretionary income for a total of $1,200. That is a 33% increase in discretionary income for just a 10% increase in total income. That $300 is able to take a lot of penny pinching out of your life giving you ample room to breathe.
I have one more piece of advice. Celebrate every success along the way.
Here are the main principles-
- Decide how you will spend your money in advance with a budget
- Manage your budget every pay period
- Do not put expenses on credit cards
- Save up a small emergency fund
- Pay off debts
- Purchase insurance
- Eliminate emotional spending
- Save up a larger emergency fund
- Add large expense categories to your budget
- Invest
- Increase your income
You can find the budget template here
Perhaps money and plenty of other things have you stress. If so Stomp on Stress with this stress free plan.