By: Paul Horn, CFP®, CPWA® Senior Financial Planner
One of the biggest challenges of working with individuals is discussing their budgets. The simple reality is people are busy and we are not taught how to budget. Another challenge is that budgeting is like doing taxes – it’s necessary but no one wants to do it! Let’s take a look at some of the more common mistakes we see when helping people budget.
- Most people create a budget incorrectly.
When creating a budget people will typically put down what they think they spend or what they want to spend. This misleads people and typically this results in their budget showing lower amounts than what they spend. A better way to budget is to start with what you spend and then look for ways to cut down on expenses from there.
- Learn the difference between non-discretionary and discretionary spending.
When creating a budget, it is important to understand what expenses are non-discretionary. These are expenses that you must pay each month and include things like rent/mortgage, insurance, utilities, etc. These expenses are typically fixed and cannot be lowered. When trying to lower your budget, it is important to focus on reducing discretionary expenses. Discretionary items are those that you choose to spend and not what you have to spend. Common examples are dining out or hobbies.
- Understand pseudo-discretionary expenses.
For many people, these are misunderstood. Pseudo-discretionary items are non-discretionary expenses that have discretionary components to them. For example, I helped a client reduce their cell phone bill by over $100 a month. Cell phones are non-discretionary and something we all need. The client’s bill was very high, so we took a closer look at the bill. They had Apple watches and iPads linked for data that was costing $60 a month. They were paying Verizon insurance when their Apple products had Apple care (they had two forms of insurance). These expenses are not necessary, so they called Verizon and removed them, and this lowered their expenses by $100 a month. Other examples would include internet service as people often pay for more internet services than they actually need. Understanding these expenses and making changes has helped one client lower their bills by over $500 a month by simply eliminating expenses they were paying for but not using!
- Compare what you planned on expenses versus what you actually spent.
People will take the time to create the budget but then they will never look at it again. It is important to look at what you planned to spend for the month and then compare it to what you spent. This is where the true value of budgeting lies as this will teach you the true value of money!
- Automate the process.
When it comes to budgeting it is important to automate the process as much as possible. Life is complex, so automating your budget simplifies the process. Make sure to pay yourself first, so set up automatic transfers on payday into savings and investing. Set up bills for autopay, so bills are paid on time (avoid those late fees!). Use budgeting apps (we will discuss this in great detail in the next blog).
Budgeting is a necessary evil, and we are here to help! Feel free to contact us at email@example.com if you would like to discuss your situation or receive our free budget template!
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