During an economic downturn, budgeting becomes a primary focus for many people. A budget, however, is an important tool even when the economy is doing very well. Sticking to a budget and living within your means in good times may help you weather a downturn. Budgeting has four key components: An awareness of how much money is coming in, attention to how much money is going out, spending habits and financial goals.
The main characteristics of budgets are that they show much money you have coming in and going out and that they should take into account your discretionary spending and personal financial goals.
Sources of Income
A budget must start with the sources of income. Your job most likely is your primary source of money, but other sources include alimony, dividends from stock holdings and income from a business venture. You won’t know how much you can spend if you don’t know how much you bring in. If you aren’t earning enough to cover your spending, you will either have to cut back on your spending or increase your income by taking on an extra job.
Bills and Expenses
There are certain necessary expenditures each month that you cannot live without. These consist of your rent or mortgage, food expenses, electricity, water and similar expenses. There is certainly room for interpretation as to what constitutes a necessity. Is cable a necessity? Life may be less exciting without the Kardashians, but you can actually survive without them, which is not the case with water or electricity.
Your Discretionary Spending
Discretionary spending is used to pay for anything that is not necessary. This is the area that is easily manipulated to accommodate other parts of your budget. For example, if you wish to save for a vacation, you are likely to temporarily change your discretionary spending habits. This is also the first area that will be altered in the event that sources of income or necessary expenses increase or decrease.
Your discretionary spending will explain a great deal about your habits, and budgeting may reveal that you spend more money in certain areas than you think. Many people don’t realize that the $3 cup of coffee that feels like a small daily indulgence adds up to hundreds of dollars annually.
Personal Financial Goals
Financial goals are unique to the individual. Some people want to travel the world whereas some want to purchase a house. Many wish to have a specific amount of money in savings in case of an emergency. A long-term financial goal shared by many couples is an education fund for their children.
Whatever your goal, you will need to build it into your budget as it will shape your discretionary spending, the decisions you make on necessary expenses – for example, how much you are willing to spend on rent or on a mortgage – and how much you wish to save.