Week 3: Create a Spending Plan

Course Progress:

“Annual income twenty pounds, annual expenditure nineteen and six, result happiness. Annual income twenty pounds, annual expenditure twenty pounds ought and six, result misery.” — Charles Dickens, from “David Copperfield”

Do you have a spending plan that’s working for you?

“Working for you” doesn’t include scraping by every month and occasionally forgetting things you need. A spending plan — more dismally known as a budget — is about putting every dollar available to you in its proper place: a place you decide.

You can certainly change that plan when needed, and in fact you should regularly review it to check.

That way you’ll always have confidence instead of guilt or doubt about your purchases; instead of just winging it, you know your past self has already investigated and decided that spending was a good idea.

That’s the power of a spending plan. It’ll serve you well now and for the rest of your life.

How making a spending plan now helps you later

One simple rule of thumb you’ve likely heard suggests you’ll need at least 70 percent of your pre-retirement income to support you in retirement.

I’m not a fan of simplified rules of thumb like this one, since it assigns a simple number to a complicated question. Obviously, what you plan to do and where you plan to live in retirement will radically affect how much you’ll actually need.

If you want to estimate your retirement income, there are calculators to help, like AARP’s retirement calculator, or this retirement income calculator from Vanguard. (More on these later.)

Keeping expenses low after retirement means you’ll need less in savings.

Don’t expect miracles, however. Simple calculators like these are great at spitting out how much you’ll have later based on how much you have now. But they can’t see the future, and no calculator can tell you exactly how much you’ll need.

Some will need far less than 70 percent of current income; some will require more. One thing’s for sure: Keeping your expenses low now allows you to save more for retirement. Keeping expenses low after retirement means you’ll need less in savings.

Here are the two best ways to keep your expenses low:

  1. Create a spending plan
  2. Eliminate debt

These are big enough that we should tackle them one at a time. This week: spending plans. Next week: debt. And then: the world!

Here’s one of dozens of articles we’ve published on spending plans over the years. It was written by Donna Freedman.

4 Rules for Creating a Painless Budget

Creating a budget — one that will get you out of debt so you can save money — is a great goal. Taking control of your finances is possible only if you have a spending plan.

But don’t budgets hurt? Not if you do them right.

A successful budget includes a goal — a reason to follow a regimen. That goal should be:

  • Specific. “I want to handle money better” could mean anything. Paying only two overdraft fees a month is technically better than your usual five.
  • Important. Maybe you’ve always wanted to self-publish a science fiction novel. That’s an intriguing goal, but it shouldn’t come at the expense of an emergency fund or regular contributions to a retirement account.
  • Achievable. Sure, it would be great to pay off your mortgage within two years while also clearing $30,000 in student loans. Don’t set yourself up to fail with unrealistic objectives. Do resolve to set reasonable objectives and use the momentum of each success to keep moving toward bigger goals.

Rule 1: Hold yourself accountable

Some goals are short-term, such as paying off a credit card or setting money aside for new winter boots. Others, such as buying a home or saving for retirement, won’t happen overnight.

Personal finance author Liz Weston is a fan of bankruptcy expert and U.S. Sen. Elizabeth Warren’s 50/30/20 budget: No more than half of after-tax income should go toward “must-haves,” 30 percent for “wants” and 20 percent for savings and debt repayment.

Thus, you would put basics like rent and utilities under “must-haves” and the funds for new boots under “wants” — unless your current pair lets in slush at every step.

These categories are somewhat flexible. If paying down consumer debt faster or putting more in retirement is a priority for you, then shoot some of your “wants” dollars toward those goals.

Look for ways to add more cash to the categories that matter most. Here’s where frugal hacks come in handy. Every dollar you don’t spend is a dollar that can be sent toward the future. See these Money Talks News articles for money-saving tactics:

You shouldn’t try to dramatically cut all costs at once, any more than you would try running a marathon before getting into shape. Incorporate money-saving ideas gradually into your lifestyle.

Rule 2: Care for the future you

Retirement planning should take priority over debt repayment. Not contributing to your plan at work means you’re giving up potential company matches. Even if your employer doesn’t match your contributions, every dollar you fail to put toward retirement is a dollar that won’t help you later on.

Rule 3: Track those dollars

If you need help budgeting, ask for it. Often, help is free. You’ll find reliable credit counselors on this page of the Money Talks News Solutions Center.

Before revamping your spending, you’ll need to figure out where your money is going now. Some people write down what they spend and create spreadsheets of their expenditures.

However, there’s a much easier way — online budgeting sites/apps such as You Need a Budget, a Money Talks News partner, will track your cash and measure your progress.

Setting limits doesn’t mean nixing future fun, but you need to be aware of how money leaves your hands. Snacks, lapsed promotional offers and banking fees are all examples of small expenses that can wreck your finances.

Rule 4: Monitor your progress

Go over your spending plan regularly to compare it with your actual spending. If you find that you’re busting the budget regularly, it is time to renew your commitment.

Think about why having control over your finances is so important. Remember that both your current and future needs will be met only if you get smarter about money practices. Stay motivated by involving your partner or family in the budget-planning process. Or, share budgeting tips with family members and friends.

Reward yourself occasionally. Just build rewards into your budget.

And there’s how to create a spending plan, in a nutshell. But an example might help you figure this out. Let’s go through a sample spending plan, courtesy of my favorite fictitious family, Sam and Sally Sample.

Sam and Sally, like most people, would rather cut off their feet with a dull ax than to have a family budget. But because they want to get their spending and debt under control, they’ve finally decided to give it a shot.

Sam and Sally wrote down all the expenses they could come up with, including some notes so they’d remember where they put certain amounts. Here’s how it looked:

Where Sam and Sally's Money Is Going
Monthly Expense Amount Notes
Bill payments $1,393 This includes principal and interest on the mortgage, along with all other loan minimum payments
Savings $250 $200/month for Sam's 401(k) plan, $50/month for Sally's savings
Eating out $190 Includes work lunches out and eating out
Entertainment $220 Includes the cable bill, Netflix, alcohol (both in and out), bowling league, golf, books and magazines
Groceries $300 Includes cleaning and laundry stuff and Spot's food
Clothes $100
Utilities $140 Includes phone, water, gas and electricity
Real estate taxes $60  1/12 of the amount from the annual mortgage statement
Home insurance $30  1/12 of the amount from the annual mortgage statement
Health insurance $100  From Sam's check stub
Life Insurance $50  Sam's policy
Child care $140  Sally's sitter
Transportation $100 Includes gas, maintenance, parking and tolls
Home maintenance $40 Includes lawn care, and tools
Charity $50 Church, United Way and stuff we buy from neighbor kids
Other stuff $100 Includes gifts, furniture and misc. irregular expenses
Total $3,263

There are lots of things we can learn by looking at this list of Sam and Sally’s cash outlays for the month.

The first thing we might notice, for example, is that they spent pretty much everything they made. They saved $250, mostly for retirement, and gave $50 to charity. There’s no room in this spending plan for emergencies or paying off debt — only treading water.

You see, Sam and Sally have more than $4,000 on their credit cards. Because when they have more month than money, that’s what they’ve use to support their lifestyle.

But what happens if there’s a minor disaster? Say Sally’s car needs a $600 valve job, for instance. Where’s that money coming from? Not from Sam’s retirement account.

Taking control of your finances is possible only if you have a spending plan.

So maybe Sally raids her meager savings, but because she’s hesitant to touch her “emergency money,” it’s more likely that she uses the Visa. The Visa will also come into play when it’s time for new furniture, a vacation or that occasional trip to the mall.

That means this list needs some refinement — pinching in some places to make space for something new. What Sam and Sally need are priorities, and that’s what a spending plan — rather than a list of expenses — will accomplish. It should list not just what was actually spent, but the ideal amount for each category of expense.

That way, when the month is over, Sam and Sally compare what they actually spent with what they expected to. Then they can reflect and adjust their habits. They are giving themselves a way to measure success and move toward it.

If they come out behind one month, they’ll see it on paper and glean what happened. So the next month they might aim to spend a little less on eating out, or plan to carpool once per week.

The goal should be to discover something they are willing and able to cut back, without giving up the things they enjoy most. When they did that, here’s what they came up with:

Where Sam and Sally's Money Is Going – Improved!
Expense Old New Notes
Bill payments $1,393 $1,393
Savings $250 $150 Redirected some retirement savings for an emergency fund
Eating out $190 $140 Started taking lunch to work
Entertainment $220 $116 Dropped a streaming subscription and one night a month at the bar
Groceries $300 $266 Switched to generic brands for nonfood groceries
Clothes $100 $100
Utilities $140 $140
Real estate taxes $60 $60
Home insurance $30 $30
Health insurance $100 $75
Life insurance $50 $40
Car insurance ($92) $57 Found the same coverage cheaper with another insurer
Emergency fund $0 $100
Paying down debt $0 $417 All the savings from other categories plus new income
Child care $140 $140
Transportation $100 $100
Home maintenance $40 $40
Charity $50 $0 Temporarily stopped until credit card debt is paid off
Other stuff $100 $91
Total $3,355 $3,455

As you can see, Sam and Sally found a lot of ways to trim their spending without hurting their quality of life:

  • They started making better use of their entertainment subscriptions and decided to drop one.
  • They found out their library has a lot more than just books.
  • They learned that generic bleach, aspirin and salt work just as well as the name brands but cost far less.
  • They did some comparison shopping on their bills for the first time in years and discovered they could often have the same for less elsewhere.

After reading up on budgeting, they also added a few new categories: car insurance, paying off debt and an emergency fund.

While their car insurance bill only comes up every six months, they decided to budget for it monthly so they can be sure it won’t drive up their credit card debt.

Read: 5 Ways to Seize Control of Your Finances — and Be Happier

Similarly, starting a dedicated emergency fund — separate from Sam’s retirement contributions and Sally’s ambiguous savings — will ensure surprises don’t drive them into the red. And, lastly, Sam and Sally are going to throw everything they can spare at paying down their debt. (A lot more on that next week.)

Tracking expenses will become a habit, and smarter spending will follow.

You can do all of this, too. It starts by writing down everything you spend. Every penny, every day.

In most cases, you already are keeping track of this without paying attention to it. When you write a check, you’re obviously already writing down the amount and payee in your check register, right? When you use a debit or credit card, it shows up on your statement. When you have money taken out of your paycheck, it shows up on your check stub.

So when we talk about keeping track of every dime you spend, what we’re really talking about is where your cash is going. The way to keep track of that is to carry around a small notebook (or your phone, if you prefer) and simply make a note of the amount and what you bought whenever you spend cash.

Read: How to Prepare for an Income Emergency

You’ll get used to it in no time, and it’s really not that much of a hassle. Then, once a month, put all the numbers together on paper and categorize it. Combined with your automatic financial records, you should have a full list of expenses, ready to convert into a spending plan! So, you see, it’s not as hard as it sounds. Tracking expenses will become a habit, and smarter spending will follow.

Your task for this week

It’s time to start tracking all of your expenses. You can use the template we’ve provided below.

Since everybody’s different, you might need more or different categories than the ones we’ve listed here. If so, make your own!

It doesn’t have to look neat, it just has to accurately account for where your money’s going. Just make sure you can look at each category and determine whether it’s a “want” or a “must-have” — if you’re not sure, it’s probably not specific enough.

Consider a 34-day free trial of You Need a Budget. There’s nothing stopping you from creating a free spending plan and being very successful with it — but a month is enough time to find out if this site’s help is worth the $7 per month it normally charges. We personally love it. Do you use something else? Tell us what you think of YNAB and other budgeting tools in the course Facebook group.

Download: Week 3 Worksheet: My Spending Plan
  Week 3: Feedback