5 Steps to Start a Budget

Last updated on September 6th, 2020

Did you know that approximately one in three Americans keep and follow a budget each month? This means that the majority of the country does not budget their finances.

There are two main reasons that people do not create a budget – the first being that they do not know how to start a budget and the second being that they are scared what creating a budget will tell them about their financial situation.

I am going to talk about how to overcome the first problem.  Below are my five easy steps to start a budget!

The Ultimate Guide to Start a Budget

1.  Calculate an accurate number for the income you are bringing in on a monthly basis.

Everyone has a different situation when it comes to monthly income.  Whether you have one or multiple incomes and no matter if it is a fixed or variable income, I would venture to guess that everyone has a base income number.

Eventually, you will want to come up with a definitive way of tracking your budget.

If you want to get real fancy, open up a spreadsheet – this is where I started and still start my budget each month.

If you want to check out my FREE budget workbook, you can download it below.  This will walk you through my steps that I am talking about below.

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Calculate how much base income your family brings in on a monthly basis.  Do not include expected overtime or bonuses at this point.

  • If you are paid strictly twice a month or once a month, this is fairly easy – either you are paid once and so you already have your monthly income or just multiply your paycheck by two if you are paid twice.
  • If you are paid every other week or every week, you have two options:
    • assume there are 4 weeks in a month and multiply your weekly income by 4 or your biweekly income by 2 (you will have two extra paychecks a year in this scenario to account for)
    • or on the months where you get paid 5 or 3 times (respectively) just know that you will have extra money that month to work with

On your piece of paper, in my workbook you downloaded from above, or in your spreadsheet, record your monthly income and label it.

Make sure you are calculating your monthly income based on net income, the amount that hits your bank account after taxes and deductions are taken out.

Finally, be sure you are accounting for all of your income no matter how insignificant – including child support, babysitting, piano lessons, tutoring, etc.

In our house, my husband is paid every other week.  We decided to assume that there are four weeks in a month so we took his paycheck and multiplied it by two to get our base salary.

2. List out all mandatory expenses – these are the items you have to pay or cannot live without.

Underneath your net monthly income, list out each and every expense you have that you have to pay no matter what.

These would be items like mortgage/rent, utilities, debt payments, groceries, gas, clothing, etc.

Make sure you include the name of the expense and the amount you usually spend on that expense per month.

If you are unsure how much you spend on an expense each month, take a look at the last month or couple months if you have access to that information and tally it up the best you can.  If not, make your best guess.  In time, you will know exactly how much you spend in each category.

I am a total believer that savings should fall into this category, but I understand that some people don’t have any money left for savings.

If nothing else, it should be in this category until you have at least $1000 saved for emergencies, and then for SURE if you have no debts other than your house.

We have a $1,000 emergency fund for now while we pay down debt – it has sufficed to help us out in the event of a true emergency.

3.  Consider any savings accounts or investments that you are currently contributing to.

Once you have figured out all the expenses that you have and need to live, it is time to look at the money you are putting towards savings and investments – retirement and non-retirement.

If you have debt other than your mortgage, I do not recommend putting too much money into savings or investments.  As long as there is a not a pressing reason such as age or a big expense looming in the future, you should be putting any extra money you have in your budget toward paying off debt.

If you are already debt free or want to continue to save and invest while paying off debt, then go ahead and list out those accounts that you are currently contributing to or have contributed to in the past.  Make sure you know their current balances as well and make note of them.

If you have a pre-tax contribution coming out of your paycheck for retirement or Health Savings Account then I would not worry too much about those, maybe just list them so that you remember you have them, but they are not being deducted from your net income.

Otherwise, brainstorm any accounts that you have money sitting including college savings plans, mutual funds, stocks, IRAs, old 401ks, random savings accounts, CDs, etc.

Next to each account, list out the amount you are currently contributing or the amount you would LIKE to contribute towards a savings or investment goal.

Once you have finished, feel free to move on to the next step.  Don’t worry if you feel you do not have enough money to meet your goals, we will be balancing the budget at the end.

4.  List out all discretionary expenses, or things you would like to spend money on.

Discretionary expenses are the things that everyone wants to spend money on and usually the culprits for going into debt or breaking your budget.

These expenses include eating out, traveling, shopping, etc.

These are all things you can live without and therefore they should be the last expenses added to the list.

Try and think of every single thing you spend money on regularly.  If you know that you get coffee every day on your way to work, write it down.

If you get a manicure or pedicure each month (or week), write it down.

Leaving out these seemingly small expenses will hurt you in the end – they add up quickly!  

This exercise is supposed to help you realize where your money is really going so there is no point in trying to lie to yourself.

And just because you write it down does not mean that you have to keep it in your budget if it is a habit you are trying to break – but you can’t break a bad money habit if you do not acknowledge it exists!

I LOVE donuts.  We happen to have two really awesome donut shops in Fredericksburg.  I realized I was sometimes going out to get a donut (or two!) 2-3 days a week!  This was definitely an expense that I needed to cut from my budget and now I go for special occasions and it is that much more enjoyable.

5.  Balance your income with your expenses.

Once you have a list of all your expenses (do one last check to be sure you have not missed anything!) you need to start subtracting your expenses from your monthly income.  This is where a spreadsheet comes in handy.  A calculator works just as well though.

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If you end up with $0 or a positive number – congratulations, you have a balanced budget!

If you have a positive amount left over I would go ahead and allocate that extra money to debt first and second to saving for one of your goals if you have no debt.

This is also what you should do (in most cases) with any extra money you might make in any given month due to overtime or a bonus.

If you end up with a negative number after subtracting all your expenses, then take a deep breath and do not panic!  It just means you have a little more work to do.

Review how much you are spending on groceries, eating out, shopping, and entertainment (movies, concerts, trips, etc).

Do any of these numbers seem too high?

If so, go ahead and lower the amount to a number that is realistic (don’t go so low that you are doomed to fail!).

If you still have a negative balance, go through every single expense and see where you can make cuts.

Do you really need to have cable, Netflix, Hulu, AND Amazon Prime?

Do you have debt payments to make and still trying to put money into retirement or college savings?  Consider cutting out the extra savings and investments until you have your debt under control.

This is a snapshot of your CURRENT financial spending but there is no reason that it cannot change.

The best budgeting course of action is to budget month-to-month.  This means that each month you will create a “new” budget.

You will use the list of expenses that you created in the last two steps but you won’t necessarily have an actual expense for each category every month.

For example, maybe last month you spent $150 on clothes.  Does that mean you have to spend $150 on clothes this month?

No, it does not.  Either reduce that amount to something lower OR reduce it all the way to $0 for a couple months and shop your closet.

Follow this rule for all of your discretionary expenses.

This is probably going to be the hardest step in the entire process.

It can become emotionally hard to let go of certain discretionary spending.

Take a couple days to think about it and discuss options with your spouse or a trusted friend and remember – if you decide to cut something out and it does not work, you can always evaluate the next month and try something else!

I used to have a hard time when I would go over budget in a certain category because since I had set that amount when I created my budget I felt like I HAD to make it work.

I recently realized that if it isn’t working then I just need to re-evaluate and try something else.  Maybe there is a different area where I can cut some money out or a different strategy for saving money – my budget is always a work in progress!

Congratulations!  You completed the hardest step – you created a budget!  While you may have hated the whole process and feel like your life is going to be lame and boring now, I promise you that after a few months of practice, you will feel a freedom to spend money… as long as it is budgeted, of course!

Once you have finished this exercise, move on to the next step which is planning your monthly budget, also known as conducting a monthly budget meeting.

Do you already  have a budget in place?

FREE 5-Step Budget Workbook!

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6 thoughts on “5 Steps to Start a Budget

  • DJ @ 1000WaysToSave

    Good advice! #3, the discretionary expenses, are always where we seem to struggle. A few extra trips to the store and a few extra gifts for people we weren’t expecting, and (as you said) those small purchases can really start to add up fast! We’ve been combing through our credit card statements, and I think we’ve got a much better handle on what we’ll need in 2017.

    • erin.lysher@gmail.com Post author

      That is great! I wish you luck this year 🙂 I always tell people not to worry about what happened in the past, just focus on what you can do to make the future better.

  • Christa

    I just finished reading Dave Ramsey’s book and, while overall helpful, I commented to my husband that the whole thing could have been a series of well-crafted blog posts…like yours! Thanks, Erin – your budget posts are fantastic and easy to follow. I’m inspired to get more organized 🙂

  • E. Gibson

    I think one thing people often forget is to set aside a monthly amount to be able to pay cash in full for annual and unexpected expenses. Examples are income taxes, property taxes, car/house insurance, DMV tag renewal and smog check, house/car repairs, Doctor expenses above what your insurance pays, dental expenses, Veterinary expenses, etc.
    I’ve been doing this for a couple of years and I can’t tell you what a huge relief it is when something comes up and I already have the cash to pay for it.
    I also put a limit on some of these expenses. For example, I know that most of these will increase each year but not by a lot. They likely will not be a whole lot more than they were last year, so I increase the amount I save by varying amounts depending on how much they increased the previous years and I cap what I save for each category when it reaches that amount. Anything leftover goes into savings.