Although budgeting often evokes angst, it shouldn’t. Budgeting is a sign of freedom, putting you in the driver’s seat on spending and saving decisions.
For those of you who find the Envelope Budget too simple, let’s discuss the Detailed Budget method instead. This method is a little more work, but it’s great for those who want to dive more deeply into their finances than the Envelope Budget allows.
Basically, this budgeting method consists of a spreadsheet you can download and fill out with numbers from your checkbook, pay stubs and tax returns. Don’t worry: It sounds more complicated than it is, and we will walk you through each step.
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First, go to the Redefining Family Wealth Resources page and download the appropriate sample budget in the Supplemental Resources section. The highlighted boxes are suggestions on which dollar amount to enter first for a given category. We are using the Married Template for this illustration, but you can download the Single Template instead.
Let’s break this worksheet down into five parts.
Part 1 – Income
Look at all income sources for you and your spouse (including employment, distributions from investment accounts, outside support, etc.) and list each one separately as a line item. The annual column should be populated first.
To be conservative, annual bonuses should be left off the income section. These fluctuating payments will truly represent a bonus, because you can pay down debt or add to savings. Just ensure you withhold taxes from this bonus as you do any other wages.
Part 2 – Fixed (Required) Expenses
These include everything from your rent or mortgage to utilities, child care, loan payments and car insurance premiums. You may not have a dollar amount for every line item in this section, but this is intended to be a good starting point.
Generally speaking, it is helpful to pay large annual expenses monthly so you do not have to think about a big year-end bill around the holidays. If your mortgage provider offers to escrow real estate tax and home insurance bills, do it. Insurance agencies and private schools typically offer payment plans for a minimal charge to spread out payments over 12 months rather than a single, annual payment.
One budget rule of thumb to keep in mind here: Fixed, Required Expenses should not exceed 50% of gross income.
Part 3 – Discretionary Expenses
“Discretionary” does not mean unnecessary; it simply reflects the variability of the expense. Expenses in this category would include ATM withdrawals, clothing, restaurant meals, fitness memberships, gifts and groceries. Again, you may not have every category filled, but this is meant to give you a point of reference.
This third section leaves plenty of wiggle room for your family to prioritize your financial goals. For instance, feel free to bump up charitable giving to the Fixed Expenses category if you tithe.
To determine the monthly amount of Discretionary Expenses, think about averages. Vacations certainly won’t cost $300 every month for 12 months, so consider an annual vacation budget and divide by 12. Notice that the medical costs here are your out-of-pocket expenses. Any employer-sponsored insurance coverage is listed in the following section, Part 4, under Payroll Deductions.
Another budget rule of thumb: Aim to have Discretionary Expenses at or below 30% of your gross income.
Part 4 – Other / Annual
This category covers things such as your tax payments, health insurance premiums and retirement contributions. Refer to pay stubs and prior year tax returns to customize this information. The health, dental and vision insurance premiums you list should be based on elections you make through your employer.
Salary deferral to a company-sponsored plan such as a 401(k) or 403(b) plan is highly recommended. You may even qualify for an employer match. More pretax savings leads to a lower tax bill, so high-income taxpayers may benefit now from maximizing their retirement contributions. Roth IRA — if you’re eligible — or Roth 401(k) contributions are helpful if you are in a lower income tax bracket now than you expect to be in the future.
Part 5 – Surplus, or Net Savings Goal
Your bottom line resides in Section 5. This is the amount you have remaining after all other categories have been filled. If there is a surplus, great! Your next step is to decide together which non-retirement goal(s) to tackle first. Or you could consider increasing your retirement contribution in the Part 4, Payroll Deductions section.
If you find yourself with a shortfall, revisit the other sections for errors and see if you are above the suggested percentage guidelines in the Required or Discretionary Expense sections. Do not be discouraged; this is a starting point and can serve as an excellent conversation starter with your spouse as you jointly prioritize goals.
The methodology is similar for single people. You are trying to aim for the same percentages in each category: no more than 50% Fixed Expense and 30% Discretionary Expense.
Extra cash flow is wonderful because you are doing a great job living within your means. A deficit, or negative value, in Part 5 means you need to make some lifestyle adjustments. Find creative ways to earn more income or decrease expenses.
Next Steps
Cash flow is one of many concepts we discuss at Redefining Family Wealth. Join our email list to get our Starter Guide and family wealth-building tips for FREE.
This article was written by and presents the views of our contributing adviser, not the Kiplinger editorial staff. You can check adviser records with the SEC or with FINRA.
