The followings are a few basic steps to consider when beginning a personal budget and savings plan. These steps involve little set-up time and simple monthly updates.
Bank Accounts – First Step to a Savings Plan
Open 2 bank accounts at the same bank to facilitate fund transfers between accounts:
- Chequing Account – Chequing accounts offer very low or no interest but usually allow frequent transactions with no fees if there are regular direct deposits. Use this account for payroll deposits, monthly bills (e.g. utilities), and other frequent expenses (e.g. mortgage, rent, groceries, entertainment, etc).
- Savings Account – Use this account for putting money away monthly for semi-annual or annual bills (e.g. insurance and property taxes) and other savings goals (e.g. vacation, home purchase, emergency fund, etc) to take advantage of the interest-earning potential on the account balance.
Identification of Non-Monthly Expenses – Creating a Budgeting Spreadsheet
Make sure money is set aside for bills that do not come monthly so there are no surprises and no need to dip into credit card debt when it comes time to renew the policies. Some common non-monthly payments include:
- property or real estate taxes
- homeowner insurance
- automobile insurance
- Divide the estimated amounts for the next payments due by 12 and transfer funds accordingly each month from the chequing account to the savings account.
- To keep track of how much has been put aside for each type of expense with different due dates, use a simple spreadsheet. Assuming that the monthly savings for property taxes, homeowner insurance, and automobile expenses are $200, $150, and $100, respectively, create 3 columns on the spreadsheet with the respective titles.
- Every month on a single row for the respective month on the spreadsheet, add $200, $150 and $100 to each column when $450 is transferred from the chequing account to the savings account. The total of each column will indicate the funds allocated for each expense to-date.
- When a bill comes due and is paid, deduct the payment from the total from the respective column on the spreadsheet.
- The total amount for each column on the last row on the spreadsheet should add up to the balance of the savings account.
Budgeting for Monthly Expenses – Determining the Spending Budget
Common fixed monthly expenses include payments for:
- automobile loan
Common variable and mandatory monthly expenses include:
- From the monthly take-home pay amount, subtract the monthly funds put aside for non-monthly expenses and monthly expenses (estimate as necessary). The balance represents how much is left for savings and spending.
- Assuming the balance is $2,000 and the estimated monthly spending on entertainment, gas, personal shopping, etc is $800, set up an automatic monthly transfer of $1,200 from the chequing account to the savings account. In other words, only money left in the chequing account can be spent.
Fine-Tuning the Savings Plan
What to do with the monthly $1,200 savings? Determine what the needs are in order of importance. Examples include:
- building an emergency fund of 6 to 12 months of take-home pay
- saving for down payment on a first home
- saving for down payment on a new car
- saving for annual vacations
- saving for other investments (e.g. retirement)
Depending on individual circumstances, these goals can be achieved either:
- one at a time – e.g. when the emergency fund target is reached, start saving for a down payment on the first home, or
- simultaneously – spread the $1,200 monthly savings among the various savings targets.
Make sure a separate column is set up on the spreadsheet for each savings target to keep track of the funds saved to-date for each goal. For those accounting majors out there, this is essential fund accounting.
Periodic Review of Personal Budget and Savings Plan
Do not forget to monitor the budget and plan against changing needs. Many steps can be done to improve the performance of the savings plan once a routine is established.
- Payroll Deductions – Modify payroll deductions for retirement savings plans accordingly. For example, if much of the savings put aside is for investments, consider maximizing retirement savings deductions (e.g. 401(k) deductions for U.S. company employees) to take advantage of employer matching and tax-free earnings until retirement.
- Interest Rate Shopping – Many reputable internet banks (e.g. Ally) offer higher interest rates than conventional brick-and-mortar banking institutions. When the savings account reaches a significant balance, consider transferring to an account with a higher interest offering.
- Budgeting Software – Consider purchasing a personal budgeting software such as Quicken. Daily expenses can be either set up for automatic downloads from banks and credit card companies or entered manually with ATM and credit card receipts to keep track of spending and how much is left in the chequing account for spending for the rest of the month.