Budget_Mistakes_623

The 5 Budget Mistakes I See Most Often and How to Fix Them

I’ve reviewed lots of people’s budgets (or, as I prefer, “cash flow plans”) over the years. No two are exactly the same because people have different incomes, fixed expenses, priorities, and more. That’s to be expected. When it comes to budgeting, there’s no such thing as one-size-fits-all.

However, there are certain overarching approaches to budgeting that make cash flow management easier and more effective no matter what your unique circumstances are. Unfortunately, the use of these approaches is all too rare. As a result, here are five of the most common mistakes I see in people’s budgets.

1. Not budgeting based on gross income

It’s pretty common to find budget recommendations based on net income — what’s left after all the withholding (for taxes) and transfers (for retirement plan contributions) are taken care of. The thinking is that net income is the money that’s available to you so that’s what you should base your budget on.

However, gross income is the purest, most complete view of your income. I prefer to use it as the starting point because some of the withholding and transfer categories are manageable.

Take taxes, for example. About 80 percent of taxpayers get a federal refund each year and this year’s average amount is around $2,300. That’s a lot of money you might have preferred going home in your paycheck. If you typically get a big refund, estimate how much you really should have withheld by using the IRS withholding estimator. Then talk to your human resources department about having less withheld.

Of course, retirement plan contributions are manageable as well. Listing how much you contribute each month on your cash flow plan can serve as a helpful reminder to think about whether you’re contributing enough. Today, when so many workplace plans automatically set employee contribution levels — and with the default amount usually set at a low three percent of salary — it’s especially important to consider whether you’re saving enough.

2. Not putting first things first

Cash flow planning isn’t just about putting all of your monthly income and expenses down on paper. It’s about guiding your use of money in a way that enables you to live within your means and pursue the priorities that are most important to you.

One reason so many people think it’s impossible to give generously, build savings, or invest for the future is that they haven’t made those items priorities. It helps a lot to design your plan with giving, saving, and investing at the top of the outgo section. (Also see Setting Financial Priorities: A Framework for Financial Success.)

List them first on your plan and then subtract them from your income before setting your allocations for housing, transportation, clothing, and all the rest. Trying to take care of these priorities with money that’s left over after lifestyle spending is virtually guaranteed to leave you with nothing to give, save, or invest. 

3. Not budgeting for home and car maintenance

One of the best ways to keep your overall housing and transportation costs down is to keep your home and vehicles maintained and to make repairs on a timely basis. That will be a lot easier if you allocate money for those purposes in your monthly budget.

When it comes to a home, it seems there’s always something in need of attention — from a leaky faucet to ant infestation. Depending on the age and condition of your home, $200 per month is roughly the right amount to budget for maintenance and repairs. If you own a condo or townhome, you should be able to budget less. Make sure you know what you’re responsible for and what your association is responsible for.

With vehicles, $75 per car per month is about right, but again, it depends on the condition of your vehicle.

You won’t spend these full amounts every month, but some months you’ll spend a lot more. During months when you don’t spend your full home or vehicle maintenance and repair budget, let that money build up, either in your checking account or in a savings account designated for periodic bills and expenses. Speaking of which… 

4. Not budgeting for periodic bills and expenses

When my family used to live in the Chicago area, I’ll never forget the first property tax bill we received. I thought maybe one of our kids had been kidnapped and this was a demand for ransom. Property taxes in Chicago are crazy high.

That’s an example of a periodic bill or expense — a cost that doesn’t occur every month, but that needs to be paid at some point each year. If you don’t plan ahead for these big, irregular expenses, they can be real budget busters. Other examples include insurance premiums, Christmas gifts, and vacations.

Here’s what to do. Include one-twelfth of the annual cost of each such item on your monthly budget. Then transfer the total of all of these monthly amounts to a savings account dedicated to these expenses. That way, when the bill comes due, there will be money set aside for it. 

5. Not budgeting for miscellaneous expenses

Having a zero-based budget is a worthy goal. That means income minus expenses equals zero. However, creating a budget where every dollar of income is allocated to a specific outgo category is far easier than following such a budget. No matter how detailed your plan, there always seem to be some expenses that just don’t fit into one of your preplanned categories.

To cope, set a monthly budget for miscellaneous expenses. But not very much — $50 is a good limit. If miscellaneous items start running higher than that, see if some of those expenses are similar enough to warrant their own category.

Especially if you’re new to using a cash flow plan, there can be a number of frustrations that make it tempting to quit. Avoiding these five common budgeting mistakes will go a long way toward lessening the frustration factor, and that should help you stay with it.

,

Comments are closed.
Share This
http://edge.quantserve.com/quant.js