When you hear the word “budget”, you might instantly cringe. After all, many people think that the sole purpose of budgeting is to keep your spending in check. While that’s certainly one big benefit, budgeting can be a powerful process for several reasons that you may not expect. To that end, I’m going to highlight five key reasons as to why you should create a budget.
What is budgeting?
Before we dive into the five reasons, let’s quickly review the process of budgeting. In the typical budget, you list a few of your core spending categories (e.g. food, transportation, housing, pets) and then set a spending target for the month. At the end of every month, you record what you spent in each category. Afterwards you review what went well, what didn’t, and make adjustments accordingly. The great thing about a budget is that you can personalize it for your goals and lifestyle.
The 5 surprising benefits of budgeting
Okay so now that we’re on the same page about budgeting, I’ll reveal five powerful benefits of budgeting that you may not realize.
1. You can zoom out and evaluate your spending over longer time frames
It’s often more helpful to review your spending over a longer time horizon. If you only focus on month-to-month spending, you might notice many more ups and downs for a whole host of reasons. When you step back and look at longer time periods, you can get a better sense of trends and patterns.
Let’s say that you’re reviewing your 2023 budget and you notice that you spent $5,000 more than expected. By tracking your spending, you can determine why the spending increase occurred and make adjustments, if necessary.
For example, when I reviewed my 2023 budget, I noticed that my utility bills were much higher than they’ve been in the past. I didn’t use more electricity or heat but the costs went up. Nothing I can do about that. Moreover, I injured my knee, which caused me to rack up medical bills. Nothing I can do about that either. However, I noticed that I spent much more on clothing that I planned. Armed with that knowledge, I can be more conscious about how much money I spend on clothes next year. However, I’m not going to ding myself for the increased utility and medical spending.
On the flip side, if you look at your budget and find that you spent less than expected, you can praise yourself for a job well done and possibly give yourself more money to spend next year.
2. If you’re financially struggling, setting a budget can help you get organized
Some people know that they’re living paycheck to paycheck but they don’t know why. When I onboard a client who feels that money is tight but they don’t know why, we gather the last few months of spending, categorize the transactions, and then walk through the results. People are often surprised by how much they spend on things such as coffee, eating out, and clothes. Now that we have more concrete information, we can determine where to cut spending so they can save more for emergencies or more quickly pay down debt.
3. You can detect lifestyle creep
When you make more money, you should be able to take advantage by saving more. However, with lifestyle creep, your spending rises along with your income, which means you don’t save more money. The problem is that lifestyle creep can be very difficult to detect. With a budget, you can identify if you’re falling victim and then figure out how to prevent the trend from continuing. To see if lifestyle creep is happening to you, simply look at a chart that shows your yearly spending and yearly income. If they move in lockstep, you’re experiencing lifestyle creep.
4. Forecast the impact of future financial decisions
Let’s say you’re looking to buy your first house. When you own a home, you have to worry about things such as home insurance, maintenance, all the utilities, taxes, and of course the mortgage. Do you have the financial space to absorb the bills? Do you have enough in savings to replace a dead water heater or repair a leaky roof?
If you’ve been maintaining a budget, you can create a forecast of what your financial life might look like by assessing your average spending in your budget categories and adjusting them to reflect what your financial life might look like. Moreover, you can add new categories or tack on additional payments that come with homeownership. After making the changes, how does your forecasted monthly spending look versus your income? If you go by the rule of thumb that you should be saving 20% of your income, is the house that you’re looking to buy allow you to achieve that save rate? I used the same process when I bought my first house and it changed how I conducted my search.
5. Maintaining a budget sets the tone for the rest of your life
When done consistently, you’ll come to realize that budgeting doesn’t limit your spending. Rather, it organizes your spending in a way that provides a sense of freedom and allows you to live in the present while simultaneously planning for the future. The act of budgeting gives you power over money so you can control it rather than the other way around.
Disclaimer
The contents herein express my views and such views are subject to change without notice. Moneyskope has no duty or obligation to update the information contained herein. Further, Moneyskope makes no representation, and it should not be assumed, that past investment performance is an indication of future results. Moreover, wherever there is the potential for profit there is also the possibility of loss.
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