Spending a little extra time planning your personal finances in advance has the potential to transform your life. By watching the pennies throughout the year, you might end up with enough cash to make some life-changing decisions.
Perhaps you want that holiday of a lifetime you’ve always dreamt about. Or maybe you’d like to become debt-free within the next few years. By taking full control of your finances now, you might be able to free up the cash you need to achieve your financial goals in the future.
Lots of people budget their finances on a weekly or monthly basis, but too many people don’t do so accurately. In simple terms, accounting for every penny you spend in advance will ensure you never spend more than you have coming in each month.
Unfortunately, most people forget about the little, everyday things that cost money. It’s easy to budget for mortgage payments, car finance and groceries. But what about that skinny latte you have on the way to work every morning? And do you remember to include your daily newspaper in your weekly expenditure?
These things might seem inconsequential, but add them up over the course of a year, and they might represent a significant proportion of your outgoings.
The cost of living changes on an ongoing basis, and only by accounting for these changing costs can you plan your financial future accurately. Managing your finances is therefore not something you should be doing once a year - it’s something you should be addressing at least once a week.
If you can set a budget that accurately reflects your financial situation, you’ll be far more likely to stick to it. Not only that, you should be able to identify a range of relatively simple cost-savings, which could give you the cash you need to realise many of your ambitions.
Budgeting your finances accurately can’t be rushed. You should set aside at least half a day to create a budget that includes all of your income and expenditure.
Your first task will be to collate all the relevant financial paperwork, which should include:
This list is not exhaustive. Make sure you have everything you need in relation to your income and expenditure before moving on to the next step.
Your next task is to calculate your total net income. If you share responsibility for personal expenditure, you should include the various income streams of family members in your calculations.
How you record your different sources of income is entirely up to you. But whether you enter them onto a spreadsheet or use good old-fashioned pen and paper, you need to include everything. Again, this list won’t be exhaustive, and it will be based on your personal circumstances.
Your income might come from several different sources, including:
It’s also important to record sporadic income that may come in on an unscheduled basis. Enter your weekly, monthly and sporadic income in three different columns, with a total for each. And work out a total income for the entire year by adding all three together.
If you have several streams of income, hiring the services of an accountant might be a cost-effective move. A good accountant will ensure your finances are arranged in a way that minimises your tax liability. But don’t forget to include your accountant’s fee in your budget! The Institute of Chartered Accountants has a list of members you can contact.
This is the most important - and most time-consuming - aspect of devising any personal finances budget. For your budget to accurately reflect your financial situation, you need to make sure that all of your expenditure is accounted for.
Accuracy is vital when listing your expenses, so account for every penny. Listing large expenses such as your mortgage payment, loan repayments and utility charges should be relatively easy - as they'll be listed either on your bank statement or your bills. They might include:
Once you're confident that you've accounted for all of your major recurring expenses, move onto occasional and variable spending - leaving nothing out. Use your bank statements as a guide, but a lot of this will require some accurate guesswork. This will probably be a long list, which might include the following expenses:
Make two lists; one for your sporadic, changeable expenditure and one for the major, recurring household bills. Add the two together to get a total expenditure for the year.
You've now done the hard work of compiling lists of your expenditure and income. Now simply subtract your expenditure from your income to work out what you have left in the way of disposable income every year. If you're spending more than you have coming in, this will be a negative figure.
If you're in the fortunate position of having more money coming in than going out, it's still important that you budget. Cutting out unnecessary expenditure and sticking to a sensible spending plan could help you to clear your debts more quickly - or pay for those luxuries you've always dreamt of.
Of course, if your spending exceeds your income, a budget is all about keeping your financial head above water. This situation could lead to you spiralling into long-term, unsustainable debt, so you'll need to make some very tough decisions and maintain a disciplined approach to spending.
Now that you have an accurate picture of your household's finances, you can take steps to reduce outgoings and make savings wherever possible.
The budgeting decisions you make will have an obvious effect on the people you live with. Moreover, you will probably need their help and support to execute budgeting decisions effectively.
Call a family meeting, and discuss the situation in detail. By now you will have identified a few quick-fixes in terms of saving money. Address them, and ask for your family's understanding and co-operation. This is also a great opportunity for other members of your household to make their own suggestions on how to regulate spending and cut expenditure.
Whether you're living within your means or overspending, there are probably a few painless ways to cut back on your annual expenditure. These might range from re-mortgaging your home to changing the brand of baked beans you buy. The changes you make won't affect your lifestyle, but they will affect how much disposable income you have every year. There might be several ways to cut your expenditure without too much effort, including:
These are just a few of the ways you can cut your annual expenditure without making any difference to your standard of living.
So, you've made the easy cost-savings; it's now time to reassess your finances. Make the changes to your two lists of expenses, and work out how much you've already saved - you'll probably be pleasantly surprised.
Work out your new financial position by subtracting your annual expenditure from your income again. If you've gone from the red to the black, you're financial situation is already looking a lot brighter. If you've improved an already healthy financial situation, you might be able to start planning those luxury purchases you've always dreamt of.
But if the changes you've made haven't secured your financial future, and you're still spending more than you have coming in, more drastic cuts may be necessary.
If you're not in a position to increase your income in order to balance your finances, the only option available to you is to make more drastic savings.
You should start with the small, non-essential purchases, and work your way up to the more significant expenses. For instance, cutting out your morning latte every morning on the way to work could save you up to £3 a day - or £15 a week. Cut out your magazines, morning newspapers, snacks, parking charges, alcohol and anything that is not completely essential.
Once you've identified the non-essential purchases you can do without, recalculate your annual expenditure again. If you still haven't gone into the black, assess the larger expenses on your list. Can you negotiate reduced payments with your creditors? Can you do without the super-fast broadband you were persuaded to sign up to? Will your mobile phone provider allow you to switch to a cheaper tariff?
Think to yourself: 'Can I do without this in my life?' If you can, it should be sacrificed - perhaps with a view to bringing it back into your life when your finances are more secure. Let's be honest; none of us really need to buy our lunch at the local cafe, do we? If making packed lunches and a flask of coffee every day for work saves money, surely it's a small price to pay for a secure financial future?
If you have severe debts that you can't manage yourself, it's time to seek professional help. The likes of Citizen's Advice, the National Debtline and countless other debt charities can help you to negotiate with your creditors. Banks, loan providers and credit card companies don't want you to become insolvent, so most will do what they can to make things easier for you.
If you've cut costs to the bone only to find out that you're still living beyond your means, it may be time to start selling your assets. For instance, downsizing your home could free up precious funds to pay off debt. You might be able to do the same with your car. Designer clothes and the latest tech often have significant resale value, so never rule out selling anything in an attempt to reduce your monthly financial commitments.
Once you have worked out how you can live within your means, it's important that you get everything down on paper, or a spreadsheet if that's how you prefer to manage your finances. You can then break everything down into monthly spending caps by category.
There will be fixed costs that you pay every monthly, including:
You should also create a list of variable monthly expenses with spending caps, which will include:
You now have monthly spending limits which you can use to ensure you live within your means. In the case of groceries, it might be necessary to break this part of your budget into weekly totals.
If unexpected expenses arise - such as essential maintenance to your car or property - you might need to juggle things around a little from month to month. This is why it's always a good idea to 'bank' unspent amounts in your monthly budgets. You never know what's around the corner!
If you're living within your means and managing your expenses closely, that's fantastic. You can probably afford many of life's luxuries, such as holidays, fancy cars and a big house. But this doesn't mean you shouldn't be thinking about the future. If your income were to suddenly be reduced, would you be able to meet your current financial commitments?
As the saying goes: 'The time to repair a roof is when the sun is shining'. Set up a standing order to a savings account. This will be your 'rainy day' account, and will be there for you when you experience an unexpected fall in your income. But remember to include your monthly savings in your overall budget.
If you're concerned that your finances are still tight, taking a 'piggybank' approach to your finances might be the best course of action. Set up a bank account for each of your major spending categories, such as bills, savings, Christmas, major purchases, holidays etc. Based on your personal finances budget, feed each 'piggybank' with the money it needs - every time you get paid.
Example - Imagine you have a budget of £2,000 for Christmas. You would need to pay at least £167 into that account every month for a year to ensure you have enough money when the time comes. The easiest way to do this would be to set up a standing order.
Imagine you have worked out that your mortgage or rent, utilities bills and council tax total £8,000 per year. You'd need to set up a standing order to the appropriate account for at least £667 every calendar month to cover the annual cost.
Use your current account for bill payments, but use savings accounts for all other 'piggybanks' - as you'll probably earn a more favourable rate of interest.
Too many people make the mistake of managing their day-to-day finances by simply checking their current account on a regular basis. This is usually a mistake. An online bank statement is just a snapshot of your current finances; it doesn't show your future commitments, due payments and pending payments. Don't make the mistake of viewing a positive bank balance as a balanced budget - as this could get you into financial trouble down the line.
Don't let your lifestyle dictate your finances - it should be the other way around. If you're going to stand any chance of controlling your finances in the long term, you need to make your lifestyle fit your income. So instead of thinking 'how can I have the holiday of my dreams', think to yourself 'what kind of holiday can I afford this year'.
The most important thing you can do when addressing your personal finances is to face the situation head on. While your situation might seem desperate, it's not going to improve if you simply ignore it. By facing reality and being honest with yourself, you'll be able to take control of your finances once and for all - instead of them taking control of you.