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Creating a budget. I realize that sounds like a torturous prospect for many of you. But ultimately, a budget is one of the best tools you can use to master your finances and make the most of your money. So today I’m showing you exactly how to set up a pain-free budget using three simple steps.

  1. Understand Your Current Spending Habits

Setting up a new budget without understanding your past spending is a recipe for failure. After all, would you give someone directions to a destination without knowing their starting point?

That’s why I think you should track your spending as your first step. You can use a variety of tools for this, including online ones like Mint. I personally like to use my Excel budget tracker (free download)since the online versions often don’t get the categories right, and inputting my spending manually forces me to look at everything I spend. When I want to do a spending assessment, I just take the line items from my credit card statements for a few months of spending, paste them into the tracker, then rename the credit card description with the general bucket in the tracker.

The reason I adjust line items into larger categories is that you might not realize how much you’re truly spending until you add it all up. You may think you’re under budget because you never make big purchases. But even small items can add up to significant budget busters over time. By seeing how much you spend in broad categories each month, you can get a sense of where your wallet is really taking the biggest hits.

After the tracker is filled out for a few months, compare the categories over time. Where does it look like you’re spending way too much? Where are you on track? Do you have big fluctuations in your spending that you need to start planning for?

  1. Set up Budgeting Guidelines

Now that you know your spending habits better, it’s time to figure out which to fix. That’s where setting up guidelines comes in. Rather than trying to remember I’m only supposed to spend $250 a month on groceries and keeping a running tally of my Safeway trips (I’m definitely not that good at mental math), I like to set up more general guidelines. They’re like little spending rules that keep me on track each month, without much stress, calculations, or decision making.

The first broad rule of thumb you can use to set these up is the 50/30/20 rule. This often cited guidance suggest you spend up to 50% of your take home income on fixed expenses (i.e. rent, utilities, your car, with up to a third of your income on rent), up to 30% on discretionary spending, and save at least 20%.

[Generally take home pay is your after-tax paycheck, but I count my take home pay as my pay after my taxes and my 401k contribution. This tricks me into saving more, since I’m aiming for 20% savings on top of what I contribute to retirement.]

Compare this rule to your spending tracker. Do you notice you’re way over-spending in discretionary category? What’s driving that? Is it eating out, nights out at bars, or shopping binges?

At the same time, think about your spending priorities. Where might you be spending extra, but it feels worth it to you? You can’t cut back in every area – you’ll feel so constrained that you may not stick to any budget at all. Instead, allow yourself to splurge in moderation. For example, I really like fitness classes, so I’m willing to spend extra money each month on the gym/ClassPass.

Likewise, if your priority is fancy restaurants, go for it! Just don’t do it every night, and make sure your budget has the wiggle room to allow it.

To ensure success, set up your guidelines to save money in the areas where you’re over-spending or aren’t priorities to you, and use those savings to fund your savings and extra spending in your priority areas. For example, some of my guidelines are:

  • I almost never buy coffee out of the house. [I actually just stepped up my home brewing game with my new automatic milk frother. I’m obsessed and it cost less than 8 trips to Starbucks.]
  • I don’t buy lunch during the week, and instead pack my lunch.
  • I cook dinner most weeknights. I can eat out at a nice dinner 1 time a week, and get inexpensive cheap takeout 1-2 times a week.
  • Generally I like being frugal during the week and less so during the weekend.

These easy mental rules allow me to stick to my budget without stressing over dollars and cents.

  1. Keep Sticking to Your Budget

The guidelines are useful tools, but you have to stick to them. Use the budgeting tool you’ve chosen to track your spending every so often. Make sure you’re sticking to your self-imposed guidelines, and that you’re spending the right amount to contribute to your savings.

I built some percentage calculations that mirror the 50/30/20 rule into my Excel tracker to help you do this. If you realize you’re still over budget, figure out the category that’s causing it. Then set up new guidelines to reign it in.

Follow these steps and you’ll be a budgeting master in no time!

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