How to Create the Perfect Budget
For many Canadians, making a budget is the first step toward effectively managing their finances and reaching their financial goals. Unfortunately, creating a budget isn’t a straight-forward process, because there isn’t a perfect “one-size-fits-all” budget for everyone.
Your ideal budget depends on your financial needs. For example, someone living in Toronto and spending a substantial amount on rent will have a different budget than someone living in a rural area of Canada with a lower cost of living and a long commute. Both budgets may be balanced relative to their respective circumstances, but they will look very different.
Your perfect budget isn’t about rigidly adhering to a formula – it’s about prioritizing your spending to help you reach your long-term goals. Here’s how to create a budget that accurately reflects your spending today and that can be tailored to become the perfect financial guide for you.
What Is a Budget?
A budget is an estimate of your incoming and outgoing cash. Most budgets are made monthly and include your income and your fixed expenses like housing, transportation, and living expenses. Typically, you’ll list your revenue at the top, and then your costs on subsequent lines. Ideally, you’ll earn more than you spend monthly, although this may not be the case for many reasons: for example, if you are unemployed, a student, or if a member of your family is on parental leave.
Your budget is balanced if you earn enough money to cover all your bills with some funds left over for saving and debt repayment. You can record your spending manually using pen and paper, or an Excel spreadsheet, or by using budgeting software or apps. Here is an example of a balanced budget:
- Income: $3,600
- Rent and utilities: $1,260
- Car payment, insurance, and gas: $540
- Student loan payments: $540
- Groceries, personal care, internet, etc.: $900
- Retirement savings: $360
How to Build a Budget
If you’ve never created a budget before, it’s time to get started! Remember that your first budget needn’t be a perfect solution; you’ll refine your budget repeatedly until you find the right spending balance.
Create your first budget by categorizing your expenses into the following categories:
- Other living expenses
Here are some examples of different expenses you might incur:
|Housing||Debt||Transportation||Other Living Expenses||Savings|
|Rent||Student loan debt||Car payments||Groceries||Retirement savings|
|Mortgage payments||Line of Credit payments||Car insurance||Cell phone plans||Children’s RESP savings
|Home insurance||Credit card payments||Gas||Netflix subscription fees||Savings goals (e.g. home down payment savings)|
|Utilities||Personal loans||Bus/metro passes||Pet expenses||TFSA contributions
|Property Taxes||Furniture financing payments||Life insurance|
Create your first budget by tallying up your expenses and categorizing them accordingly. If you do most of your spending from a chequing account, you can use a budgeting app to import and automatically categorize your transactions.
Once you’ve tallied up your expenses, the totals for each category should align roughly with these ballpark percentages of your take-home pay:
- Housing: 35%
- Debt: 15%
- Transportation: 15%
- Other living expenses: 25%
- Savings: 10%
Of course, every budget is different, and yours may not look exactly like the suggested percentages above – and that’s okay. For example, if you live in Toronto or Vancouver, your housing expenses may very well be more than 35% of your net income. But if you’ve paid off your debt (reducing that category to 0%), your proportions of savings and housing costs will still be in balance.
That said, if your budgetary allocations vary dramatically from the proportions above, it can also indicate problems with your spending. For example, if you are spending so much on debt and living expenses that there is no room left for savings, that is a sign that you need to adjust your budget and prioritize your future. Whether that means cutting down on evenings out with friends or finally committing to getting out of debt, having a budget will show you where you are vulnerable financially and how you can improve.
Creating the Perfect Budget for You
Once you know how much you’re spending on a monthly basis, you can take steps toward crafting your perfect budget. Your perfect budget should meet the following criteria:
Reflect Your Goals
Don’t think of your budget as a restrictive trap that keeps you from having fun. Instead, think of your budget as a framework that helps you achieve your financial goals. For example, if your goal is to pay off your car loan, but your housing expenses are too high to do that, consider moving to a cheaper apartment or a lower cost neighbourhood to move more money toward your car loan repayments and less on housing. Or if you want to spend some time (and money) on expanding your horizons and travelling the world, reduce your spending in other categories to reflect that. Finally, if your goal is to retire early, put away more than 10% of your income after taxes toward your savings every month.
A common downfall when building a perfect budget is to create one that is unrealistically restrictive in order to meet your financial goals sooner. While it may seem appealing to live an ultra-frugal lifestyle to meet your financial goals, this strategy rarely ends well.
For example, you may decide to cut your transportation costs so you can pay off your credit card debt. But is walking five kilometres to work each day realistic over the long term? A good compromise may be to shop around for better car insurance rates and invest in a bicycle to reduce your gas costs.
Include Leisure Spending
Setting an unrealistic budget can backfire and even leave you worse off than you were before, especially if you don’t include a line for leisure spending. For example, if your goal is to save $30,000 for a home down payment, and you cut your living expenses to the bone to put every penny into your savings account, eventually you may rebel against that restriction and go on a spending spree.
A frustration-driven spending spree could leave you worse off than you would have been if you’d allocated just $100 per month to entertainment. A perfect budget should include leisure spending, along with realistic financial goals.
Take Time to Achieve
While you may have a clear idea of what your perfect budget looks like, if it’s very different from your current budget, you should strive to move toward it in stages. A sharp change in your spending habits increases the likelihood of blowing your budget, which might cause you to quit budgeting altogether. Instead, move gradually from your current budget toward your budgetary ideal, changing your spending a little at a time over several months. This strategy gives you time to adjust and improves your chances of success.