Budgeting 301

Previous months financial articles highlighted the value of budgeting as well as outlined the logistics of creating and maintaining a budget. In this months article, we will explore some of the common budgeting challenges and offer suggestions on how to overcome these obstacles.

Last months article detailed how to use zero-based budgeting. This process starts with identifying and writing out all sources of income. However, some income is irregular or variable in nature. The solution to accounting for variable income sources is to base the budget on the minimum amount of income expected. The second step to budgeting is laying out all expenses and prioritizing those expenses in order of “needs” and then “wants”. This step is imperative when one has variable or irregular income. With variable or irregular income, minimum income should be allocated towards the necessary living expenses first. Discretionary expenses such as vacations or dining out can be allocated for periods when income is higher than the minimum expected and all other necessary living expenses are accounted for first.

It is relatively easy to budget for regular and consistent expenses such as rent or mortgage but how should irregular expenses be accounted for? Irregular and larger expenses may include yearly pre-payment for propane, property taxes, or infrequent auto replacement or repair. The irregularity of these expense is not an excuse not to account and budget for these items. Total costs for these irregular expenses should be anticipated. Information related to costs for propane or property taxes is easily accessible. Records of past costs and usage can also be helpful in determining the dollar amount to budget for these items. Depending on anticipated life cycle and taste of an auto, it is easy to break down what one needs to save on a monthly basis to pay cash for the next vehicle. For example, perhaps your taste in vehicles is a new $35,000 SUV purchased every ten years. One should budget around $300 per month for this expense.

The key to budgeting for irregular expenses is to actually account for them on a monthly basis. If propane costs are $2000 per year, $165 per month should be put away in a savings account earmarked for nothing other than propane. A separate savings account can be established to put “home” irregular expenses (property taxes, LP pre-pay, remodel or replacement costs, etc) and another savings account for “auto” expenses (auto replacement, repairs, tires, etc). Those savings accounts should be added to on a monthly basis to account for those upcoming and irregular expenses. Smaller irregular expenses (quarterly life insurance premiums, vacations, gifts, etc) can be expensed with cash savings stuffed away in the sock drawer (or cookie jar if preferred). Irregular expense are not emergencies, they just need to be budgeted, accounted for, and monies set aside for those expenses. Irregular and unanticipated expenses that cannot be personally financially absorbed should be insured against. This may include pre-mature death, house burning down, or totaling out the new auto when driving home from the dealership.

What happens if the expenditures exceed the total income? Financial priorities need to be re-assessed. Perhaps the decision needs to be made to sell the financed boat or auto to eliminate an expense payment. Consider the small expenses. As Benjamin Franklin said, “beware of little expenses – a small leak will sink a great ship”. Perhaps expense reduction is not the answer -consider if the income portion of the equation needs to be addressed. Does income need to increase, possibly through a side job, additional hours worked, or selling items that are no longer needed?

Budgeting is elastic, it evolves and changes as personal situations and priorities change. Quirks and challenges will arise but don’t let them be an excuse not to capture the value that budgeting offers – the ability to create direction, purpose and priority with your money.

Adam Smit is CERTIFIED FINANCIAL PLANNER™ and a registered principal of LPL Financial. This article is for general information only and not intended to provide specific advice or recommendations for any individual. Securities offered through LPL Financial. Member FINRA/SIPC.

BY ADAM SMIT