The formula to creating abundance, not scarcity, in our lives starts with planning to spend. In fact, when we focus instead on a budget, it may seem like we need to be doing the opposite: planning not to spend. The reality is that we are bound to spend money. Some expenses are essential for living — others are lifestyle preferences. The point is it is essential to have a plan for your money so you will have a plan for your future freedom.
The word “budget” is such a negative word. Just saying it, or writing it, validates a mindset of scarcity. In fact, the adjective form of the word “budget” means “inexpensive,” like “budget condo.” So let’s replace the phrase “create a budget” with “create a spending plan!” Most of us love to spend.
At the end of the day, we are all either masters of our money or slaves to our money! And the formula for becoming a master of your money is to have a plan on how you are going to spend your money with an eye on your financial future.
Creating a Spending Plan
A spending plan takes into account how you are going to use the money coming in (income that you make) to cover your money going out (expenses) and allows you to create a plan for what you are going to do with the money left over. It is a roadmap that will keep you on track financially. Just as a map would help us get from point A to point B using the fastest, most direct route, planning how we spend our money provides the same financial superhighway.
Get started by following these steps to creating a spending plan:
- Track Your Money: How much have you historically made in income and spent on your expenses?
- Create Categories: What are your different sources of income and expenses?
- Assign Amounts: How much do you need to plan to cover your needed spending for each category?
- Implement: Put your plan into place.
- Evaluate and Adjust: Are there categories that you need to adjust?
Track Your Money
During this step, be sure to include all sources of income and expenses as accurately as possible. For all your income sources, check your tax returns as a place to start as well as looking at deposits into your bank account. Then, look at your bank statements and credit cards to see how you spent your money.
This is where credit cards can be very helpful. They help you keep track of how much you are spending, and are easy to analyze each month. As long as you pay them off each month to avoid costly interest charges, credit cards are a fabulous method to help you keep track of where your money is going. Credit cards can be great tools and earn you great loyalty rewards as well! I love my credit cards!
Read: 12 Smartwatch Money Apps
Your expenses will fall into one of two types: fixed or variable.
As the name implies, a fixed expense is consistent over time. An expense is fixed if it requires payment on a recurring basis, is difficult to change the amount of or is a contractual obligation. If you have a cell phone contract, consider the related monthly charge as a fixed expense. Fixed expenses can be harder to reduce quickly.
A variable expense is an expense that is easier to reduce or eliminate. It may be adjusted from one payment to the next or does not recur on a consistent basis. Examples include entertainment or eating out.
Note that if you own a business, its expenses should be kept separate from your personal expenses and compared to the income generated from that business. Your business should have its own spending plan.
Based on what you discovered in the first step, create categories for where your money comes from (income) and where it gets spent (expenses). Organize your expenses into the following categories:
- Personal Insurance
- Health Care
- Apparel and Services
- Miscellaneous and Contributions
Then, determine the percentage for each amount spent in each category against total expenses paid, and then compare your own expense habits to the national average for consumer spending. To do this, use the following formula as your guide: Amount spent in category / total spending = percent of total spending.
National Average Consumer Spending*
- Housing: 33 percent
- Transportation: 17 percent
- Food: 13 percent
- Personal Insurance: 11 percent
- Health Care: 8 percent
- Entertainment: 5 percent
- Apparel and Services: 3 percent
- Miscellaneous and Contributions: 10 percent
This is a great way to quickly identify where your spending may be way out of whack. It would be good to concentrate on making adjustments in these categories first. It may be that your housing expenses, typically a fixed expense, is 45 percent, well above the national average of 33 percent and therefore draining your ability to get ahead. If so, a more dramatic action plan related to your housing may be needed since it is such a large percentage of your expenses.
Now that you have identified your hot spots in spending that need fast attention, you can declare ways you can reduce those specific expenses quickly. It also allows you to review your income for ways to increase the income you are earning each month. Then, total your income and your expenses to make sure that you have enough income to cover your total expenses, with money left to spend on your future, by saving or investing. It is the money you keep and spend on (invest in) assets that will determine when and if you will become financially free.
The word “asset” is the sexiest word in the world. Assets become income-generating machines for you and work for you while you sleep. When the income generated each month from the assets you own — over and above income from you working — exceeds your monthly expenses, you are financially free.
Implement and Adjust
A spending plan (map) is only good if you follow it. It is time to make your plan real. If you determine that you are going to spend $500 per month to your Food and Entertainment categories, promise yourself you will stick with it! You will probably find that once you start implementing this strategy it will become instantly rewarding and you will want to continue finding ways to make even more money, and ways to spend less on consumer expenses so you can spend more (invest) for assets.
Evaluate and Adjust
Monthly, or at least once quarterly, review each category to see how your actual numbers compare to your plan. This is critical to being successful and becoming a master of your money.
This step allows you to see if you have created a plan that you can stick with over time. Here are a few questions:
- Have I reached my expected level of income?
- Are the amounts assigned in each expenses category accurate and reflective of my actual spending habits? Keep an eye on the national averages.
- Am I saving and/or investing money each month and creating assets? This should be a category in your spending.
- Do my expenses exceed income? (Danger, danger!) Am I using credit cards the wrong way — to cover some of my costs?
If the answers to the questions above are not favorable, then it is time to make further adjustments to your spending plan. It is also time to look in the mirror and ask yourself, “Do I want to be a master of my money, or a slave to it?”
The law of attraction states that what you think about, comes about. I am a firm believer that it takes more than positive thinking to get what you want. Action is the key to making huge leaps to get to where you want to be. Effective action usually starts with a plan. When you combine intentional thought with action, it is a powerful one-two punch in achieving your goals. When it comes to your finances, spending plans give you this one-two punch. Create a spending plan that includes spending on assets and you will become a master of your money!
* Based on data from the Sept. 2015 Bureau of Labor Statistics consumer expenditures report.