How to Create a Budget That Works


It's no secret that money can be a huge source of stress, especially when you're flying blind. That's where creating (and sticking to) a budget comes in: Once you know where your money’s going and dream up a few financial goals you’d like to accomplish, you can design a plan that helps you get there. In other words, budgeting puts you back in the driver’s seat.

Here's how to create a budget that works.

1. Factor in Expenses and Goals.

The first step is to calculate your take-home pay, or the amount you earn after taxes. This is the top-line number you’ll need to keep in mind when tallying up your monthly obligations, which generally fit into three categories: 

Fixed Expenses

These are bills you can count on every month like rent or mortgage, utilities, gym membership and child care (if you’re a parent). Ideally, the total number shouldn't exceed more than 50 percent of your take-home pay. If you're over the mark, try to negotiate things like cable service and cell phone plans, which can free up hundreds over time.

Financial Goals

Whether it’s setting money aside for emergencies, paying off credit card debt and student loans or saving for a down payment, make sure to earmark some money every month for goals that are important to you. (Note that retirement savings and any other pre-tax contributions aren’t included here.)

It’s also smart to account for non-monthly expenses here—like annual insurance premiums, quarterly taxes and car registration fees. Add them up, divide by 12 and save that amount each month, so you’ll be prepared when the bill comes due.

Because saving and paying off debt help you build wealth, make it automatic. That means setting up auto-transfers from your paycheck or checking account to dedicated savings accounts, so you’ll never have a chance to spend the money.

Variable Expenses (a.k.a. Everything Else)

This last category is dedicated to lifestyle expenses—including food (groceries and restaurants), entertainment and other personal care items—that may fluctuate from month to month.

Be realistic: Even if you’re facing down monster debt or a $0 savings balance, it’s important to allow yourself at least a few small pleasures. They’ll keep you from feeling deprived and help you stick to your budget.

2. Pick Your Budgeting Style.

Okay, so you’ve accounted for all your expenses. Now it’s time to pick the budgeting style that works best for you. Here are a few tried-and-true approaches.

The 50/20/30 Rule

The 50/20/30 rule is a great starting point for those who like structure. You allocate 50 percent of your tax-home pay for fixed expenses, 20 percent for financial goals and 30 percent for variable expenses.

Don’t worry if you don’t hit those exact percentages at first. If you realize your fixed expenses equal 60 percent, for example, you have two choices: Scale back till you hit 50 percent, or borrow 10 percent from your variable expenses. (Ideally, you’ll preserve the financial goals category, which helps you build wealth.)

The Envelope System

This old-school method, where you stuff cash into actual envelopes dedicated to different day-to-day spending categories (gas, food, etc.), still has a place in 21st-century budgeting. It’s especially helpful for overspenders: Once the money’s gone, it’s gone.

Digital Tools

Like the idea of dedicating specific percentages or target numbers for different spending categories, but can’t seem to keep track of those receipts? Using a digital budgeting tool like Mint or You Need a Budget is a good solution. After linking your bank accounts and credit cards, they’ll track your spending for you. Then you can adjust to meet your goals.

The Flexible Budget

This is the least-restrictive style, which is why it’s usually only recommended for those who have a good handle on their financial obligations and aren’t likely to overspend. After accounting for fixed expenses and financial goals, you’re free to spend whatever’s leftover in your account.

Automation is essential here—you’ll want to set up automatic bill pay and auto-transfers to savings and investment accounts—so you don’t accidentally spend money earmarked for something else.

3. Adjust as Needed.

The last piece of the puzzle is adopting habits that can keep you on track and feeling in control. In addition to automating whenever possible, check in regularly on your progress and make adjustments when needed. Getting a raise, adding or slashing a new bill or realizing that you’re consistently overspending in one category are all good reasons to tweak your plan.

Finally, no matter how long you’ve been budgeting or which style works best for you, it’s important to allow yourself some wiggle room. Get too lean, and you risk blowing the whole thing.