Welcome to Day 4 of the Master A Budget Series! Yesterday, we talked about the Budgeting Goals; today, you will learn about the components of budgeting which are the Income and Expenses.
Let’s dive in.
When you have a budget, there are two key points that make up your budget, that is income and expenses.
Let’s take a closer look.
The first key point and most important part of your budget is your income. Your income is what drives your budget; this is where it will all start.
Here are the types of income that you may receive every month.
Gross income is the total amount of the wages you received before taxes or any other withholdings like social security, Medicare, etc.
In contrast to gross income, Net income is the income after all deductions are taken out. This is usually referred to as your take-home pay.
Extra Income/Passive Income
Extra income is the income that you receive from your side hustles.
For the purpose of budgeting, we will only take into consideration the net income and extra income.
When it’s time to start writing the income part of your budget plan, there will be some estimating, no doubt; but make sure it’s estimation, not dreaming.
The income area of your budget is not the place to write down ideals.
To have an idea of how much net income is, simply take a look at your paycheck if you are salaried (meaning you have the same pay every month regardless of how much time you put in).
But what if you have an irregular income?
You would simply take a look at your net income over the last three months and estimate your average monthly income.
Your next key point is expenses. It simply denotes where your income is going; where are you spending your money on.
Expenses can be broken down into two types of expenses, fixed and variable.
Fixed expenses are the bills in which the amount does not change and that you expect them every month. This can be your rent, mortgage, student loan payment, car payment, cellphone bill, cable, water, electric, etc.
Although water, gas and electric bill varies every month, I still categorize it under fixed because I can request it to be billed even. Otherwise, they will be under variable expenses.
Variable expenses are bills that are not fixed and can be discretionary. This type of expenses includes food, pet supplies, clothing supplies, gifts, credit card payments, utility bills and etc.
As you break down your expenses into understandable categories and numbers, remember that charitable giving or any giving away of money should be also listed as an expenditure.
I usually add this as the third type of expenses because if you are putting away after-tax money from your income towards your savings, then it is considered as an expenditure as well.
Or, if you are adding money to your sinking funds, it is also considered an expenditure. A sinking fund is a money set aside every month for the purpose of a future big purchase or vacation. We will talk more about sinking funds in the next part of the series.
Some Basic Principles
In budgeting, there are some principles that are considered basic. Here are some of them.
Wants vs Needs.
The question to ask yourself is, “Can I survive without this?”. This can be a hard one, but it’s vital for a budget to function properly. Beware of convincing yourself that a want is a need when it isn’t – you may just be trying to find an excuse to buy the item.
Real needs are things like clothes, food, and shelter; but designer clothes, gourmet food, and a grand dwelling are more like wants!
Income vs Expenses
Your expenses should not exceed your income. You may find yourself surprised the first time you do a budget and discover that you actually don’t make enough money to cover your expenses.
If you see this, you need to look back carefully at your income section and see if you can grow it through side hustles or by working overtime.
You also need to examine your expenses, maybe you are spending too much in one area. Re-evaluate and trim your expenses as much as you can. Check out 101 Smartest Ways To Save Money Fast.
There you have it!
Knowing and evaluating your income and expenses is essential in setting up a budget that will work.
Is your income higher than your expenses?
Now that you learned about Income and Expenses, come back tomorrow and I will share with you everything you need to know about Budget Categories and Percentages.
If you haven’t yet, download the Master A Budget Workbook to practice what you will learn from this series.