Think Beyond Income and Expenses

Reading Time: 4 minutes

There is no doubt that budgeting is one of the most important steps of managing your money. Regardless of that, many people do not have a budget while some find it difficult to follow their budget strictly. Why is it hard to follow a budget? Why is it challenging to think beyond income and expenses figures on a budget?

If done correctly, a budget can be a great measure of your habits with money. When things are falling apart financially, the starting point is the budget. Suppose you are thinking of taking debt or growing your income generating assets, the first thing to do is to analyse your budget.

Moreover, before you say yes or no to a business or a personal adventure, you need consult your budget. How can you learn from your past personal finance mistakes without using a budget?

Categorizing incomes and expenses

Listing all your income and expenses randomly may not give you the insights you need to properly manage your money. I call this piling up of meaningless data. Data is only useful if you can extract meaning out of it. If you cannot make decisions with your budget then you are doing it wrongly. You need to think beyond income and expenses figures by understanding what those numbers mean to you.

The most efficient way of getting the most out of your budget is to classify your income and expenses into categories.

You need to categorize your budget in order to:

• identify the expense category that you need to reduce,
• project the maximum debt level you can take,
• understand your spending behavior and,
• calculate the percentage of income to invest and save.

Income Categories

There are many categories you can define depending on what you want the budget to tell you. The following is my preferred way of categorizing my income:

1. Recurring/Regular Income
2. Once-Off Income
3. Allowances
4. Bonuses

The category for Recurring Income lists all the income that you will receive regularly. Knowing how much you are getting monthly in advance will help you to make long term decisions.

The second category on our list tracks the Once-Off Income sources. It is very important to distinguish this category from the Recurring Income bucket. You cannot make long term commitments basing on the income that is not regular. This is the main reason why many people go broke after getting rich quickly.

The third and fourth income buckets (that is Allowances and Bonuses) can easily fit into the first two buckets. However, since these figures may fluctuate and may not be known with certainty in advance, I treat them separately. These may depend on how you have performed. Taking for example, bonuses may be given when your team performs well on a project while allowances like transport may depend on the number of kilometers you travel in a month.

Expense Categories

Expenses section is the most trick part of budgeting. If you are poor on managing your income, this section is what makes you broke.

Our preferred expense buckets:

1. Investment and Saving deductions
2. Basic Needs
3. Debt and Insurance deductions
4. Family expenses
5. Luxuries/Wants
6. Additional expenses

If you want to be free from the bondage of money, learn to master the Investment and Saving bucket. Make it a habit to invest and save before you allocate what is remaining to other expense buckets. This bucket is the most important yet most people do not allocate anything on this bucket. This is the money that you use to buy income generating assets like shares, bonds, property etc.

Moreover, the second most important category is the Basic Needs category. This is what you need to make a living. If you read our post on investing before paying off debt, we outlined the importance of having an Emergency Fund. The Basic Needs category will give you a clue of the amount of money you need to put in an Emergency Fund. The basic rule is normally 3 times the total monthly basic needs amount.

The Debt and Insurance payments bucket gives you visibility on the portion of the income you are spending on debt. You should aim to minimize this portion of your budget in the long run. We have discussed ways of reducing debt in our post about investing before paying off debt.

If you are not yet in debt, the Debt and Insurance bucket will give you an estimate of the maximum debt you can take. If you are willing to put say R 10 000 on this bucket, it is advisable to take debt with total payments that are less than half of what you can afford to put in Debt and Insurance bucket. Therefore in this case take only debt with repayments less than R 5 000. The remaining money allocated to the bucket will be used to increase the repayments on your debt so that you can pay off your debt fast.

The Family bucket is important. Even though I strongly subscribe to the ideology of cutting expenses, family comes first. It does not benefit you to gain all the money in the world and lose the love of your family. You just need to manage this Family bucket wisely to avoid giving more than what you can afford. Remember, if they are your true family, they also want the best for you.

When you are aiming on cutting costs, the first expenses to cut are those in the Luxuries and Additional buckets. You can live without luxuries. Therefore, you can transfer the money you are spending on luxuries to your Investment and Saving bucket.

Important articles

• Getting out of debt
• Bad money habits can lead to depression

What is next

Now that you have classified your income and expenses, you need to analyse the amount of money you are currently spending in different buckets. This will give you a signal of whether you need to adjust your budget or you should keep doing the good job you are doing. Try to compare budgets for different months to understand the trends of your behavior. Think beyond income and expenses – this is the best way to master your money management skills.