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9/21/2016

budget rules: identify before you justify

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Budgeting tends to be a consistent area that people struggle with in their personal finances, whether or not they work with a professional adviser.  In my experience, I've found that one of the primary stumbling blocks along the way to a workable budget is the desire to work backwards.

there is a logic to the order

The first step to developing a budget is to identify current spending, but too often we start by trying to justify our spending.  What's the difference?
  • Identify: we spend about 16% of our total budget each month on dining out
  • Justify: we have a busy schedule, and so it just makes sense for us to eat out more often
  • Identify: 3% of my gross income goes into my 401k at work
  • Justify: my company matches contributions up to 3%, so that's what I do
  • Identify: Currently, I spend $95 a month for smartphone service out of a total budget of $1875
  • Justify: I work a lot away from my office and need a great smartphone plan
To be clear, there is no judgment here about each person's justifications, but rather a suggestion that building a budget backwards by justifying current spending and wants will often lead to an overspent or under-considered budget.
But approached the other way, with a clear picture of where the money is going each month, which categories get the most and least money, and what patterns are apparent, you now have the ability to single out which items most need to be justified, and what it will take to make it fit the overall budget.

how to begin?

There are tons of apps and worksheets and systems out there to help people with budgeting, but my absolute favorite and most simple option in the days of electronic banking and online credit card accounting is to download your spending history directly from your bank and credit card companies in a spreadsheet.  They will most likely have things grouped in categories already, but it is a simple thing to add a new column and sort your stuff into groups you find useful.
I recommend starting with no more than four to six categories and putting every line item into one or another.
​That's where you start!

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    Author

    David R Wattenbarger, president of DRW Financial

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