What Is A Budget And Why Do I Need One?

The key to making the most of your money is managing how you use it. To avoid getting caught up in overspending or unnecessary purchases, setting a budget is critical. Budgeting doesn’t mean all your money goes to necessities and savings. Instead, it’s about balancing the necessities along with your wants and savings goals to make the most of your income.

Understanding what a budget is can help you make better purchasing decisions and manage your funds.

Personal Budget Definition

Much like a business develops a budget to ensure it’s spending money appropriately, individuals who want to monitor their finances and spend responsibly must develop their personal budget.

Budgeting is being intentional with how you spend money and planning ahead to help ensure you don’t run into anything surprising before your next paycheck. By monitoring your finances, you can save money for future goals and estimate how long it will take you to meet them.

What Is The Purpose Of A Personal Budget?

A budget can be used to help an individual or family spend and save more responsibly. It’s also a tool designed to plan and track your finances. This can help you achieve your goals or save up for expensive purchases. Not only that, but budgeting can help you save money to pay off debt and avoid future debts or unneeded expenses.

It can be hard to understand exactly where your money is going until you begin to track it in detail. By establishing a budget and monitoring your spending, you’ll learn more about patterns in your purchasing that you may wish to change. Even if you’re not in a tight financial position, establishing a personal budget can help grow your finances and give you a better understanding of money.

Personal Budgets By Budget Type

Since your personal budget is based off your financial needs, there are a few different kinds of budgets depending on your situation. If you’re struggling on where to start, here are some options to help you begin the budgeting process that you can adapt to better fit your needs as you go.

• 50/20/30 budget: This method relies on the 50/20/30 rule. It divides your income into percentages: 50% goes to needs (housing, transportation, groceries, etc.), 20% to savings (including things like a 401(k) or an emergency fund) and 30% to other expenses (eating out, concert tickets and other discretionary spending).
• 80/20 “pay yourself first” budget: Following this method, your budget is based on your net income. Your net income is your income after taxes, sometimes called your take-home pay. If you budget in this manner, 20% of your net income goes immediately into your savings account, while 80% is spent on fixed and variable expenses.
• Cash envelope system: The cash envelope system relies on withdrawing your income in cash, and dividing it into envelopes. These envelopes are based on different categories like groceries and clothing. Then, you use the allotted cash per envelope to pay for your needs and wants without overspending. There are ways to do this virtually and with credit cards, too.
• Zero-based budgeting: To follow this method, every dollar should be budgeted before it’s spent. It’s about making the most of all your money and making sure that your income is covering all your expenses.

Why Is Budgeting Important?

Even if you aren’t trying to save a certain amount of money or pay back debt, having a personal budget is still key to improving your financial health. Tracking what you spend and planning for future expenses can prevent you from overspending money that is needed for other areas of your life. Using a tool like the Rocket Money^℠ app, or even writing it down, can help you visualize how much you have to work with and what you’re spending your money on.

Unless you magically have an endless source of funds, you only have a certain amount of money to work with each month. On the other side of the equation, you have certain expenses to cover each month. A budget helps ensure that these two sides of the equation balance out.

Benefits Of Budgeting

Having a personal budget comes with a lot of perks. Here’s what you can gain from budgeting.

• Not overspending: When you’re not tracking your finances, it can be easy to overspend. So even if you’re only thinking in the short-term, planning out what things you need to spend your money on from week to week and month to month means you are less likely to accidentally spend too much on shopping or other unneeded purchases.
• Saving for the future: Sometimes, it’s easy to get lost in the purchases you want today and forget to save for tomorrow. By budgeting, you can save your money for an emergency fund in case of unexpected financial hurdles. You can also save for retirement to give yourself better financial stability later in life.

Budgeting Tips

It can be tricky to decide how to manage your finances if the budgeting process is new to you. But there are a few things you can do to get started.

Determine Your Financial Goals

To figure out your budget, it’s easiest to start by deciding what you want your budget to do for you. While a budget is great for helping you avoid financial struggles, it also helps put your money to work and brings you closer to your financial goals.

Three big goals to think about before saving up for any major purchase, like a home, are creating an emergency fund, putting money away for retirement and paying off debt. You can even use apps to easily set up your goals and make saving easier, like the Smart Savings feature from Rocket Money.

By determining your financial goals, you can decide what you need for your personal budget. Not only can this help you decide what you should save each month, but it may be easier to stick to your budget when you know the reason behind why you’re doing it.

Figure Out Your Income And Expenses

To establish a budget, you need to understand what your financials currently are. After you set your financial goals, you can start figuring out where to allocate your funds in a budget.

When calculating your income, figure out how much money you typically have coming in each month. If your income varies, figure out a monthly average. If it varies significantly, be conservative when coming up with your average and use an estimate on the lower side. For example, if some months you make $2,000 and other months you make $5,000, it may be helpful to budget closer to the $2,000 number.

Calculating your expenses is just as important as understanding your income. Some expenses will be pretty similar each month like rent, insurance, utilities, groceries, etc., which makes it easy to track. Other expenses, such as eating out or varying household incidentals, will probably be different from month to month, making them more difficult to plan for.

Calculating both your income and expenses can help you understand your discretionary income. This is the income you have after necessary purchases, like paying bills or rent. Your discretionary income is the money that you can use freely to do what you want, and your budget helps you decide what to do with that money.

Use Budgeting Tools

Understanding the budgeting process may be tricky if you’ve never done it before, but there are a lot of tools you can use to make the process easier. You can make budgeting a little simpler by tracking your regular spending or having a budgeting app do it for you. Apps like Rocket Money will estimate your monthly spending and save you time, since you don’t have to calculate it out yourself. Similarly, depending on your bank account, a bank may provide features within its banking app to help you budget.

There are also online calculators you can use to help determine your income and expenses. Once you decide what type of budget you want to follow, there may also be personalized calculators for understanding the percentages of a certain budget.

If you’d rather track the finances yourself, there are budgeting templates that allow you to build worksheets or spreadsheets to manage your money.

What matters most is finding the tool that works best for you. Try different tools until you find the easiest method to ensure you keep to your budget. Depending on how you spend, whether that’s with cash or credit cards, different tools may better suit your situation.

The Bottom Line

A budget can be beneficial for anyone as it’s important to stay on top of your finances. That means continuing to track your spending to create a budget that works for you. Additionally, if your circumstances change, you should revisit your budget and decide if there are any areas where changes need to be made.

Looking for help managing your personal finances? The Rocket Money app can help you have greater control over your finances by finding your unwanted subscriptions, tracking your monthly spending and more. Take the first step toward reclaiming your financial health and download the app today.