Is having a budget really the best way to save money?
You've probably been told a hundred times before that having a budget in place is key to hitting a saving target. But is it really?
Most of the savings tips you see are something along the lines of 'sell your unwanted belongings' or 'Stop eating out to save $20 a week'. This is just silly; putting restrictions on yourself is almost always the wrong way to go about it. Let’s break down the idea of a budget.
The idea of a budget to track exactly what you are spending your money one, either weekly, monthly, yearly, etc. You'll have your fixed costs, such as your rent or mortgage, petrol, food, bills & in most budgets, you would simply calculate your monthly income & take away your monthly expenses. Pretty simple to do & what your left with is an amount of money that you should potentially be saving every month.
Now having this sort of budget in place is great for tracking exactly how much you are earning & if you have something like this is place you are most likely in a much better position than someone else who has nothing in place. But the issue with this is that most people trying to save money will sit there and say, okay well if I'm earning $4,000 per month & my expenses are $2,600 every month, I should be able to save $1,400 each & every month.
In a similar way to dieting, when people try to cut out all bad foods & stick to a 100% 'clean' diet, they struggle. They will do great for a week or two & then completely fall of the bandwagon & go on a massive binge. This in turn is much worse for your health in the long run.
This is because it is not sustainable over long periods of time. Consistency & sustainability are the two most important factors when trying to diet.
The same can be said for saving money. If you try and save the full $1,400 every month, you may find it easy the first week & maybe even the second. But then your mates ask you out for drinks at a pub which could potentially cost you $200. You start to feel guilty because you can’t save the full amount. In that same month, you also have you Mums birthday. You need to buy her a present & take her out for dinner etc. Also costing you money & decreasing your potential savings.
At this point, most people would just say "stuff it", I've gone over my budget this month I might as well just keep spending.
Like the diet example, once you fall off your diet, people tend to binge heavily on the bad foods that they have been craving. The same thing happens with your budget, you've already blown it, might as well buy those new shoes that I've seen online or might as well go out Saturday & Sunday night to make up for the last few weeks that I've missed out.
Just like your diet, once you have fallen off your budget, it is much harder to start again.
By putting tight restraints on your spending, you are setting yourself up to fail.
The Idea of replacing your budget with a spending plan
The better way of achieving your goal of saving money, is to set up a spending plan. It might sound a little silly now but bear with me.
The idea of a spending plan is that instead of restricting your spending every month, you actually allow a spending amount each month. This will keep you much more consistent which is better than trying to save every last cent.
To do this, calculate your income & fixed costs as you would with any typical budget. Once you have these figures, divide your fixed costs per month by your income per month. To use the previous example $2,600/$4,000=65%. This indicates that your expenses make up 65% of your total income. Usually they would be between 60% & 75% of your income. If your expenses are more than this, you could look at different ways to reduce your fixed costs. Have a deeper look into what your spending your money on.
Is there a cheaper phone plan that I could be on? Do I really need a 6 cylinder car? Am I paying to much for my insurance?
Could I potentially reduce my home loan repayments with a lower interest rate?
Just some of the questions you should ask yourself, you would be surprised how much you can save by doing so.
Back to the earlier example, say your fixed cost make up 65% of your income, that leaves 35% or $1,400 that you could potentially spend, save or invest. Instead of trying to save to full $1,400, think about things that you know you won't be able to cut out of your life that cost money. You might be addicted to buying shoes & buy a new pair every fortnight. You might love hitting to town with friends every couple of weeks. Whatever it may be, allow for it to happen. If you truly love doing something, restricting yourself is not the option.
Say you work out that on top of your fixed costs, you will also need around $800 per month to continue to enjoy yourself & do the things you love. This would mean that your spending amount is $800 per month. You can do whatever you like with this money; it is totally up to you. Instead of thinking about how much you need to save, you know how much you have to spend, on absolutely anything.
Now that you have your fixed costs & your spending amount, you can put the rest into your savings. You can do so & not have to worry about dipping into your savings because you have $800 to play with.
At a minimum, a good rule of thumb is to allow at minimum 10% of your income for savings. If however you work out that because of your spending habits you can only put away 8%, don't stress. Putting away that 8% or $320 per month is going to be much more beneficial in the long run, because you will be able to do so each and every month, on a consistent basis. Consistency is the key!
To sum everything up, using the example, this is how the spending plan would look.
Income per month - $4,000
Fixed costs per month - $2,600 or 65% of income
Spending amount - $800 or 20% of income
Savings each month - $600 or 15% of income
Now that you have the gist of it, one important thing to consider is automation. By setting up automatic transfers to separate accounts for your fixed costs, spending amount & savings you can clearly differentiate your money. You will be able to see your savings growing and be able to track the spending a lot easier.
The key take away from this is that consistency & sustainability are the most important factors with trying to hit a savings goal.
And the sooner you start, the sooner you can see your savings grow with the help of compounding interest!
Instead of restricting yourself from your daily coffee, putting a spending plan in place is a much more suitable way to keep you on track to hit your savings target.