Saving & Budgeting 101 Guide
Welcome to the most important 101 class around, Saving and Budgeting 101! How you use the tools set out below will determine most of your major achievements and decisions in life. Because the world we live in is so intrinsically linked to our finances, most decisions made ultimately come down to whether we can afford to do the things we want or need to do.
Nothing we are going to present to you here is rocket science. Indeed, the highest hurdle to clear when it comes to personal finance is deciding to actively think about it, and you’re already here and doing that. What we are aiming to do here is give you a place to start with a task that can feel thoroughly overwhelming, and guide you through the steps towards completion. At the end of this exercise, you should be able to determine what goals you are currently in a position to achieve, and what changes you’ll need to make in order to achieve your other goals. Here goes nothing…
Before We Begin
For the purposes of this exercise, we are going to operate on a monthly basis. Given that most recurring expenses are monthly, this is generally the easiest way to break down budgeting. Generally it’s the shortest period in which you have received an average amount of income, and incurred an average amount of expenses. If this is not the case for you, for example if you work in a freelance role and your income can be very lumpy, then you may want to bump up your savings rate in the good times to extend your emergency fund, creating a larger buffer should you find yourself without work for a prolonged period.
Useful Tools for Saving & Budgeting 101
This exercise can be done in its entirety with just a pen and paper, but it’s often more efficient to use a spreadsheet (try Google Sheets if you don’t have access to Microsoft Excel) for your calculations, and can be easier to look through expenses in aggregate using a Financial Dashboard such as Mint or Personal Capital.
Step 1: Income
Let’s start with the (usually) easy bit. Most of you are paid between one and three times/month – if this is the case, it should be easy to work out what your monthly income is on average (if you’re paid bi-weekly, you can either budget conservatively for two paycheques per month, or average your annual income across 12 months).
We are going to use Maritza the Ostrich for our example budget. She makes $3,500 per month after taxes from her job entertaining at the Bronx Zoo.
Step 2: Expenses
This will be the most onerous part of the process we are going through here – deep breath… let’s dive in!
To begin with, we are going to separate expenses into two categories: Variable and Non-Variable. That way, as we work our way through our expenses, you’ll start to see where it’s easy for you to cut out certain spending, and what you really value as a necessity.
Let’s take a look at Maritza’s Non-Variable expenses below:
- Rent: $1,000 (you would’ve thought she’d get an employee discount for working at the zoo, but no such luck…)
- Fixed Utilities (Cable, Internet, Cell Phone): $250
- Student Loans: $100
- Subscriptions (Gym Membership, News, Streaming Services, Feathers/Skincare box): $125
- Public Transit/Commuting Cost: $125
- Total: $1,550
So of Maritza’s $3,500 of after-tax income, she spends $1,550 on Non-Variable expenses, leaving her with $1,950 to cover her Variable expenses, plus any saving she’s able to do for her Emergency Fund and Retirement.
Variable expenses can be harder to get a handle on, as they change over time, and can be seasonal in nature too. This is where your Financial Dashboard can come in handy. We recommend that you take a look at your last 3 months of spending, and take an average of each category, with a Miscellaneous category for anything that doesn’t fit into a regular monthly purchase.
Let’s take a look at her Maritza’s average monthly Variable expenses now:
- Variable Utilities (Heat, Water, Electricity): $100
- Groceries: $200
- Eating out/going to bars: $200
- Lunch at work/coffee: $150
- Personal care e.g. haircut, specialist beauty products and spa treatments: $100
- Clothes: $75
- Cultural experiences e.g. museum, theatre: $50
- Miscellaneous: $50
- Total: $925
Which brings us to $1,025 leftover for savings on average after expenses.
Step 3: Emergency Fund Savings
Once all of your expenses are covered, then it’s time to look at what you’re going to do with the leftover money in your bank account each month! The first place to start here is with your Emergency Fund. This is money that you’re planning on keeping in a Savings Account that you can access at short notice in case of a sudden expense, or if you lose your job unexpectedly. You can find our recommended Savings Accounts (Coming soon).
Maritza feels pretty comfortable with her job security, and so she has decided she wants to keep 3 months of full expenses on hand, in the knowledge that she could stretch that further pretty easily by cutting back around $600 of spending each month if she had to. This would just about get her through 4 full months if necessary. Currently, she has $5,000 in her savings account after an unexpected healthcare bill, and she’s contributing $500/month to get back to the $7,500 balance that she feels comfortable with. In 5 months time, she’ll be back there and can reallocate that $500/month to other savings.
Step 4: Retirement Savings
With your Emergency Fund covered, or back on the way to being covered, it’s time to make sure you’re putting money away for retirement. Even if you’re unable to maximize your 401(k) or IRA contributions (see our 101 class on Investments for more details on different options here), it’s good to keep contributing some money, to take advantage of any company matching of your contributions to a 401(k) plan, and the effect that compounding of returns has on your invested funds.
At the moment, because of that unexpected healthcare bill, Maritza is only able to put $525 into her 401(k) each month. This still allows her to take full advantage of her company match, which is 50% of funds up to 6% of her salary of $50,400, and she will start contributing more again once her Emergency Fund is back up to $7,500.
Step 5: Additional Savings for Other Goals
Once you’ve made a decision on how much to contribute towards your retirement accounts, the next step is to decide what you want to do with any funds you have leftover. Perhaps you’ve always wanted to spend a week in the Bahamas at an all expenses paid resort, or you’re thinking about buying a house for the first time and need a down payment. Maybe you’re saving for a wedding, or you’re ready to take the plunge and start that drop-shipping T-shirt company you’ve been talking about for the past 4 years! This is where you’re going to find the money to work towards these goals.
Depending on how soon you’re going to need the money, you might look at investing this portion of your savings in low-risk investments, such as bonds, or saving it in Certificates of Deposit (“CDs”), to achieve better returns than you will be able to get in your regular savings account that you use for your Emergency Fund.
Unfortunately, Maritza isn’t making enough money right now to be able to save anything towards her long-term goals, but she’s been doing some on-the-job training for a promotion to Lead Ostrich at the Bronx Zoo. Rumour has it that this comes with a hefty raise, and she’s hoping to found a Financial Literacy platform using the extra cash she’s going to have – watch this space…
That’s it for Saving and Budgeting 101!
Check out our other guides including Debt, Retirement Investing, Short-Term Investing & Giving.
