Budget Allocation: The First Step in Personal Finance
Part of Oak Street Advisors’ 10 Financial Commandments for Millennials series, budget building and understanding a general hierarchy of allocating extra income is crucial to getting a head start on retirement planning for millennials. Follow these steps and refer to the Personal Budget Template to begin.
Make a budget and stick to it- seems obvious and easy right? Except for it’s not- not at all.
Well, it is easy to make a budget. One that clearly has every bill, investment, savings contribution and living need covered. It looks so nice and neat when you’re done with it too!
But…your budget won’t stay nice and neat.
You overspend on a weekend getaway or spontaneous night out with friends and before you know it, that $300 that was supposed to be put into your IRA this month was spent on bar tabs and work lunches.
Budgeting is hard work and life is expensive. Knowing that budgeting is hard is the first step to good budgeting. So, what does a decent budget look like for a young professional just starting out on the road to retirement? The answer is different from person to person but let’s start with the basics.
5 Steps in Basic Personal Budgeting
Step 1:
Income – Fixed Expenses
Always deduct your bills, insurance premiums, food allowance etc. directly from your paycheck. These are fixed unavoidable costs that cannot go unpaid. Now- how much is left in your checking account after you’ve paid for your next month’s existence?
Step 2:
Emergency Fund Savings
We’re going to get into the Emergency Fund in an upcoming article, but what you need to know now is that after paying your living expenses you need to save an exact $ amount to cover your butt if any surprise expenses arise or you suffer a job loss.
Step 3:
Retirement Savings
Once you’ve got your Emergency Fund completely funded start working on maxing out a retirement plan. Ideally, you’re participating in an employer sponsored plan like a 401(k) that will allow you to contribute up to $18,500 each year.
If you’re not offered this type of plan, make sure to max out an IRA. Generally, a Roth IRA is advantageous for younger investors, however, check with your advisor or tax preparer about the implications in regard to your specific circumstances.
You may consider mixing the tax-deferment of a 401(k) plan with the tax-free characteristics of a Roth IRA to play both sides of the income tax fence, so to speak.
*Some young investors may consider college savings an integral part of their financial plan. Step 3 is a great place to include college savings
Step 4: (Could be Step 3)
Paying Down Debt
Many young investors have student loans, credit cards, auto loans, mortgages etc. that can be mentally and financially draining. Depending on your situation, it may be advantageous to allocate a part of your monthly disposable income to paying down debt.
It may be smart to allocate disposable income to savings, retirement, and paying down debt all at once–it truly depends on your unique circumstances.
Step 5:
Treat Yo’Self
While allocating extra income towards improving your financial position both now and in the future is great fun– spending your hard-earned dollars is fun as well. Ideally, you’d start saving for vacations or another ear-marked goal after the previous steps are taken care of, however, that is often not the case. We need to enjoy our money as much as we need to grow it- so don’t forget to enjoy the fruits of your labor!
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Free Personal Budget Template
Now that you have a basic guideline for creating and prioritizing your personal budget, why not take a crack at it yourself?
Would a simplified Personal Budget Template help you organize your budget? Click that link to download the budget template I use personally as a CFP® practitioner and which I’ve customized to follow these budgeting steps.
