Lesson C: Spending Plans

A spending plan, also known as a budget, is a financial tool that enables you to take control of your money. With a realistic plan, you can refocus your efforts towards setting realistic goals and establish guidelines for achieving those goals. The spending plan is also an effective way to prepare for emergencies and unanticipated expenses. Once you have your plan in order, you can begin to use it to measure your goal achievement progress.

Getting Organized
The most common way to start a spending plan is to get organized. This is where you will gather the facts and lay all of your financial details on the table. Getting organized simply means gathering all of your financial documents and grouping them into two categories, Income and Expenses.

Income
We will start with the income category. Income is sub categorized into two types, Gross Income (before taxes) and Net Income (after taxes). Medical insurance, 401k or 503b contributions, IRA contributions, Flexible Spending accounts and 529 plan contributions may also be deducted from your gross income. We will work with your net income for this plan. This would be considered your “take home pay”.

Expenses
Once your have determined what money is coming into your household, you must then understand what is being paid out on a monthly basis. These pay out’s are known as expenses.

Categorizing Expenses
It is important to categorize your expenses into as many categories as possible. If too many expenses end up in the “other expenses” category it will be difficult to properly analyze where your money is going. Expenses can be divided into three main categories, Fixed Committed Expenses, Variable Committed Expenses, and Discretionary Expenses.

Fixed Mandatory Expenses
These are necessary expenses with fixed monthly payments. When developing your spending plan, these items take precedence over any other budget item.

Variable Mandatory Expenses
These are also necessary expenses with payments that vary from one month to the next. When developing your spending plan these expenses are second to fixed committed expenses.

Discretionary Expenses
These are expenses that aren't strictly necessary for your survival. In your spending plan these expenses have minimal importance and can be reduced to ensure that more important expenses are met.

Income vs. Expenses
Determining what you make and what you spend is part of the process. It’s also important to know that you are making the best uses of your cash resources. A common way to test this is to subtract your expenses from your income. If you are left with a negative number, “budget trimming” is needed. This is where you determine what discretionary items can be trimmed to create a more positive cash flow. This also will indicate if your expenses exceed your income in which case you will need to take one of two steps. Increase income or reduce expenses. This information is conducive in realizing the achievement of your financial goals.

Increasing Income
Income can be increased by getting a second job or picking up extra hours at your existing job. Another great way to increase income is to open a small weekend or home based business. There are many ways that income can be increased; it’s a matter of how creative you are at identifying available resources.

Reducing Expenses
One method of reducing expenses is known as “budget trimming”. This highly effective method involves a complete review of your discretionary expenses. Most or your discretionary expenses can be reduced or eliminated completely. You may also look for ways to trim your committed expenses as well. Ideas such as getting a roommate to decrease rental cost or minimizing utility usage to decrease monthly bills are also great strategies.

Budget Guidelines
Budget guidelines will help you determine if you are living within your means in certain expense groups. These guidelines are percentages of your income that are viewed as acceptable. Lenders also use budget guidelines when deciding to approve credit applications. Below is a listing of standard budget guidelines commonly used by lenders:

• Housing 35%
  • This includes monthly payments such as mortgage or rent, taxes, repairs, improvements, insurance and utilities.
• Transportation 20%
  • This includes monthly payments such as gas, oil, repairs, insurance,parking and public transportation.
• Debt 15%
  • This includes monthly payments such as credit cards, personal loans, student loans and other debt repayments.
• Other expenses 20%
  • This includes monthly payments such as food, insurance, prescriptions, medical bills, clothing and personal items.
• Investments and Savings 10%
  • This includes stocks, bonds, cash reserves, collectibles, etc…

Exercise
Use the monthly spending plan form to record your income and expenses. The current column is for actual expenses. Once you have completed the budget form use the proposed column to make adjustements to your spending as needed.

Click here to access the monthly budget form

Quiz

Click here to access a printable version

1.	A budget is a spending plan.	True/False
2.	Spending plans increase awareness of your cash flow.	True/False
3.	Net income is your earning before taxes	True/False
4.	Using budget guidelines helps determine if spending is high in a particular category.	True/False
5.	Discretionary expenses are never necessary for your survival.	True/False
6.	Budget trimming is a way to increase your overall expenses.	True/False
7.	Getting an additional part time job is a way to increase income.	True/False
8.	A budget is a way to control how you spend money	True/False
9.	It's important to categorize expenses.	True/False