A budget is simply making a plan for the use of your money. Understanding the merits of having and following a household budget may seem complicated but can actually be straightforward. Knowing exactly how much money you make and spend can help you maintain financial stability and achieve your financial goals.
Most people; however, don’t create a budget. Just under one-third of respondents to a Gallup poll said they prepared a detailed budget.
Creating a budget begins with evaluating your income, listing your expenses, and determining where you can cut costs and how much you can save. Savings can include a variety of purposes such as long-term goals, emergencies or more specifically, for a vacation or down payment on a house.
There are several methods for creating a budget. The most common are monthly, annual and bi-weekly. What will work best for you often is the method that is in alignment with your pay periods or your personal preference on how you think about your money. Below is a brief overview of each method, including their unique advantages and disadvantages.
The most popular style of planning expenses is the monthly budget. This gives you a clean snapshot of all expenses coming up that month and accounts for all anticipated income. Because most recurring expenses, like housing, utilities and cell phones, follow a monthly billing cycle, for many, it makes sense to plan your spending on a monthly basis.
Building out a monthly budget is great for its simplicity. Looking at the full year ahead and all the expenses that come with it can be overwhelming and complicated. By just focusing on an individual month – and therefore, a single housing payment, and just one or two paychecks – you can more easily plan out your spending.
However, there are drawbacks to monthly budgeting. There are certain expenses that only come up once or twice a year, like car insurance, tax payments and holiday gifts. When it’s time to focus on these financial obligations, finding room in a monthly budget can be challenging. This brings us to the annual budget.
One big difference between yearly and monthly budgeting is how far into the future each method looks. An annual budget, for instance, can better prepare you for once-a-year purchases or bills that come quarterly rather than monthly.
Consider the expenses that may come up a few times each year, but likely will not appear monthly:
- Car repairs, registration and insurance
- Birthday, anniversary and holiday gifts
- Vet appointments
- Tax payments
By looking ahead at the full year, you can more accurately predict how much income you can afford to set aside for the long-term future, and how much you should save for that vacation you’re planning. If you have large seasonal purchases, an annual budget may be a better place to start. You can always break down an annual budget into monthly installments.
For the many merits of monthly and annual budgets, the truth is they don’t reflect many Americans’ pay cycles. Most employees in the U.S. – 36.5 percent, according to the Bureau of Labor Statistics – get a paycheck every other week, often referred to as a bi-weekly schedule. Another 32.4 percent of workers get weekly paychecks.
So why not budget accordingly?
A bi-weekly budget can help people strategically allocate funds from specific paychecks to certain bills and expenses. This budgeting style may be especially helpful for those who routinely feel strapped for cash during the time after they receive their first paycheck of the month and pay the majority of their bills, but before the second paycheck comes through.
If you’re a homeowner, a bi-weekly budget can go hand-in-hand with a clever way to pay off your mortgage quicker. Ask your lender if you can make half-payments twice a month rather than full ones monthly, NerdWallet suggested. This will result in 26 half-payments annually because there are 52 weeks in a calendar year. This is equivalent to 13 full payments, putting you one installment ahead of where you’d be if you stuck to 12 full payments per year.
Another perk to paying home payments bi-weekly is your ability to allocate more of your individual paychecks to other necessary expenses, like gas and groceries. If you dedicate the majority of a single paycheck to a full mortgage installation, you may have limited funds to get you through to the next two weeks.
When you’re paid on a bi-weekly basis, you’ll receive 26 paychecks per year and there will be two months in which you’ll receive three paychecks. A common downfall of bi-weekly budgeters is treating this third “extra” paycheck like a bonus, or free cash. Don’t fall into this trap. That check is your hard-earned money and should be dedicated to typical expenses like any other form of income. Consider saving what you normally would allocate to expenses from these checks – saving a chunk of money in this way twice per year can help you boost a home or emergency savings account.
Which budget is best?
As you can see, monthly, annual and bi-weekly budgets all have good qualities as well as a few drawbacks. When choosing a budgeting method, what’s most important is that your budget makes sense to you and is maintainable.
If you’re up to it, you can create a combination of budgets based on each of these methods. This will help you hone in on short-term expenses while also allowing you to see and plan for the big picture.
Once your budget is in order, you may find that you have more opportunity to save. Consider one of OnPoint’s excellent savings accounts to store your newfound surplus.