I put together these budgeting tips for young adults, who are leaving their parents’ house and just starting their independent life. I hope that parents of the teenagers would also use my tips in preparing their children for stepping out of the family nest and living on their own.
The main reason for me to write this post and teach young people how to manage their money is to keep them away from debt. I want to really stress out and make it crystal clear: getting out debts is a complicated and painful process. It is much easier not to dive into the debts and not be drowning in them.
Having said that, I also want to mention that some debts are unavoidable, and having an education loan or a mortgage is okay as long as they are of reasonable amounts, the interest rate is low, and your overall debts are holding a small percentage of your budget.
What is the budget? Why do I need a budget plan? How do I create a personal budget plan? Where should I keep my money? Do I need a credit card or a debit card? How do I stay free of debts? Please continue reading to get these questions answered.
What Is Budget And Why Do I Need a Budget Plan?
You left your house, you stepped into your own adult life… You know that you need money to live on, and probably found your first job already… or maybe you are in college, and your parents are still partially supporting you. In either case, you are here because you want to know how to plan your finances smartly.
A budget is an estimate of income and expense for a set period. Why do you need to plan it? The answer is simple: to keep yourself free of debts, build a good credit record and be able to start saving for the future.
Income is your net earnings – money you receive after all deductions such as tax, health insurance, retirement savings, etc. Income includes earnings from all jobs, and any other support you may get from your parents, spouse, or sometimes, the government.
The expense consists of your “needs” and “wants”. Take this short quiz to find out if you can correctly identify which expenses are necessities and which are desires.
Planning your budget makes you aware of your income, your mandatory expense, and your desirable spending. Such knowledge leads you to the meaningful decisions and reasonable adjustments in both earnings and spending, which in turn opens opportunities for sooner financial stability and security. As I mentioned in my previous post titled “How to Retire Early with Little Money? || Become Wealthy in 10 Years.”, extreme frugality is not a lifestyle I would recommend to anyone, especially not to people in their young age. Therefore, we have to think ahead and plan our present and future – so, that we save little by little without noticeably affecting our today’s quality of life, and yet improving our tomorrow’s financial well-being.
How Do I Create a Personal Budget Plan?
Take a sheet of paper, lay it horizontally and draw 4 vertical lines on it to divide space into 5 columns (or use Excel spreadsheet). The odd-numbered columns (## 1, 3, 5) are wider for text, and the even-numbered columns can be narrow for the dollar amounts. The second vertical line will be thicker than the others because it separates the income from the expenditure. The headers for these 5 columns will be:
- Income Source
- Amount/ mo
- Expense Category
- Amount/ mo
The first two columns are easy to fill in: in the 1st, write your sources of income (such as, ‘Main job’) and in the 2nd column – a net earnings (for example, $1,500.00), which is a residual monthly amount after all deductions have been taken from gross pay, such as payroll taxes, retirement plan contributions, your contribution to the Premium of health insurance, etc.
The next two columns are spending-related. In the 3rd column, list all your monthly expense categories starting with the absolute “needs” and moving towards wants. List closer to the top those spending which, even though can be lowered or completely eliminated, are of higher priority to keep (such as your phone service, Internet service, etc). Write less necessary or irregular expenses closer to the bottom of the list.
Don’t forget to accommodate the annual, semi-annual or quarterly financial responsibilities, such as college tuition if you are a student, or quarterly income tax if you work for yourself.
If you are a college student and you have a partial scholarship, partial financial aid, and the rest you are paying out-of-pocket, you’d want to make sure that you have the required amount before the beginning of each semester. The best way to be worry-free is to calculate your annual out-of-pocket responsibility, divide it by 12 months, and put aside this amount each month regardless of study or vacation period. However, you need to do your calculations as soon as you got accepted to that college, and start collecting immediately – so, that you have a good jump-start until your first payment. If you do as I suggested, your tuition expense becomes a monthly need, which will be listed at the top of your expense categories column and considered a high priority.
You can, if it makes it more visible to you, write your scholarship and financial aid as your income. Then, you’d have to write your full tuition as an expense. However, since these sources of income are targeted to a particular expense and nothing else, you don’t have to mention them in your budget planning – only out-of-pocket responsibility is important for you at this time. When you start paying back your education loans, then you’d list your monthly payment amounts as a high priority expense.
If you are self-employed full time, your estimated tax must be paid quarterly. Otherwise, you’ll be penalized. If you have a part-time business, you can pay a little extra tax at your main place of employment, and there will be no penalties (it does require proper calculation, though!).
The 4th column shows monthly spending amounts by category. And here you may get stuck because you have no idea how much you spend on food or on your car gas per month. Don’t worry. Fill in what you do know: your rent/mortgage, utilities – look them up in an online or on paper monthly bills, your car loan, monthly pay for a daycare program, and other set amounts.
After paying those known bills, you’ll have a few categories left with unknown monthly amounts and one lump sum that has to be enough to cover all these expenses. Does this look realistic so far? If yes, go ahead and enter your best guess or proportional calculations: how much or what part of the residual amount you believe would make sense to spend on car gas, food, clothes, entertainment, etc. The following month, you’d have to keep track of all your spendings by categories. The easiest way to do so is by using a credit or a debit card only – no cash! Don’t skip the chapter below in this article discussing the bank cards.
If by the time you entered all known expenses you realized that there is not enough income to cover anything else, you already know that there is a problem and you must address it right away. I will help you find possible solutions in the last chapter, but please don’t skip bank accounts and bank cards discussion. I hope you understand that using credit cards as loans is the worst idea one could come up with. Yet, it is the most common mistake because it’s an easiest short-term solution, which creates a deep long-term problem.
The 5th column “Comments” is for making notes regarding your adjustments when balancing your budget at the end of each month, or even more often, especially during the first year of planning.
Where Should I Keep My Money?
The answer is: in a bank. What else is there to discuss? 🙂
Well, let’s see… First, you need to pick a bank. How? Do your research! Here are the tips on what to look for when choosing a bank.
- Security of your funds. In case of bank’s bankruptcy, FDIC insurance provides $250,000 in coverage per owner, per account. Make sure that your future bank is FDIC insured. If you have such large amount of cash, it should not sit in the bank, especially with today’s low interest rates. But, if for some reason you must keep it there, have accounts in more than one financial institutions.
- Do you prefer an online bank without or with a very few physical locations, or a brick-and-mortar bank?
- What types of account is the bank offering?
- What are the interest rates on savings and money market accounts?
- What types of fees does the bank charge?
- Is there a minimum balance to keep in the account in order to avoid account maintenance fee? Is there another option to avoid the monthly fee (such as having a qualifying direct deposit).
- How many offices, ATMs the bank has, the convenience of their location and hours of operation for you.
- Is there an online banking option, and how well it’s developed?
- Does the bank return “foreign” ATM fees (fees charged by ATMs not belonging to this bank or to the alliance the bank is partnering with)?
- Does the bank offer extra benefits to its customers? What kind of benefits?
- Does the bank offer extra benefits to its customers for keeping certain minimum balance on their accounts?
Once you found a suitable bank, you need to decide on what types of the accounts you need to open.
- Checking Account is a must. You’ll keep there your monthly rolling money. You feed it from the whole or a part of your income (direct deposit is a good option if available through your employer). You’ll use these funds to pay your monthly bills, for food and other day-to-day expenses. But, this will be a 2-step process. In reality, you’ll have one credit card and you’ll use it to pay for everything possible. Just before the due date, you’ll pay off from your checking account to your credit card the total balance of the last statement.
- You also need an account for your emergency fund savings. For this, you can use saving or money market account. These two account types are designed for savings and are easily accessible at any time you need money. Typically, you are allowed to make 6 transactions per month from either of these two types of the bank accounts. As of Spring, 2018 some money market accounts have a little higher interest rate. If you have more than one source of income, most likely you’d be able to set up a direct deposit to savings or money market account from your secondary (smaller) source. If your bank has a good online banking system, it’s easy to manually make an online transaction from checking to saving. And of course, you can always make a transaction from ATM or in the bank office during its business hours.
- If you have money for a long-term saving, which you are certain that you won’t need to access urgently, do not keep these larger amounts in the bank – invest them.
Do I Need a Credit Card, a Debit Card, or Both?
You need both. Here is why you need a credit card:
- At present, some credit cards give excellent benefits, such as travel accident Insurance, car rental insurance, emergency road services, and reward miles (or points) program, where you receive points for every dollar you spend. The reward program is an excellent way to save money. When you accumulate a good number of points, you can use them to purchase something you need, pay your travel expenses, pay back your credit card balance, or exchange points for cash. I use VentureOne card issued by the Capital One bank for many years, and never failed to pay off my full monthly balance before the due date. I am very happy with their Rewards Miles program and other benefits as well as their Customer Service and automated security alerts. I always rent a car in my travel destination country using my reward points. It’s wonderful to have a “free” car when traveling.
- When you use a credit card and pay off your balance at the end of every billing period as I suggested above, you don’t pay any interest or fees, and you build a good credit record for yourself. The better your credit score is, the easier it is for you to receive a loan with the lower interest rate – you’ll appreciate this when buying a house, or even a car.
- As I explained above, you will need a checking account. When you open one, you’ll get a debit card automatically. Do not use it in situations other than when you need to get some cash out of ATM. Especially do not use your debit card for online purchases. Using a credit card is safer than using a debit card. When you use the credit card, you are borrowing money, even if only for a month. On the other hand, when you use the debit card, you use your own money – the money you deposited into your checking account.The banks have become very good at monitoring and catching suspicious activities on your credit card account. You are usually not liable for stolen funds from your credit card account. Most banks are also becoming better in reimbursing their clients on funds, withdrawn from clients’ checking accounts when a debit card was stolen, or its number was hacked. Still, the process can take longer and be more complicated because it’s your money – not bank’s.
How Do I Stay Debts-Free?
Let’s look at your budget plan again and compare your income with your expenses. Your budget is balanced if your total monthly expense is matching your monthly net income. A very good personal budget plan would fall under the 50/20/30 rule, where 50% of the budget is allocated for the essentials, 20% – for savings, and 30% – lifestyle choices.
But what if this didn’t happen? How can you adjust your plan to live debt-free? Let’s look at your options in details.
As I mentioned above, use of a credit card as a loan is absolutely unacceptable!!! Forget that credit card account even has an option of paying back less than a total monthly balance. No! No! And No!
Credit card loans are very expensive; they charge extremely high interest. Even if you think that you found a low-interest credit card, it is still too high compared to mortgage or a car loan for people with a good credit score.
First, start looking at your spendings, and figure out what is extra and where you can cut down the amounts you spend.
- Stop that Cable TV service – there are plenty of great free documentary, news, movies and other shows on the Internet.
- Cut down your phone bill – find cheaper service that only covers basics that you’d definitely need for communication with an outside world in case of emergency.
- Remember to always shut down powered devices and lighting when you don’t use them – save on your electricity bill.
- Don’t take an hour shower, make sure that none of the taps are leaking. Save on your water bill.
- Can you move to a cheaper place? Find another roommate? I know, it’s inconvenient, but your choices are either earn more or spend less. Remember, DEBT is NOT an option. Housing is the biggest expense, and if you save there, maybe it would be enough, and you won’t need to look elsewhere.
- Almost always your spendings on food have a room for improvement:
- Doing grocery shopping and preparing meals at home can be healthier and cheaper than eating in a restaurant.
- Most people can cut on the groceries they buy. Food gets spoiled, and you must throw it away and waste your money. Don’t buy more than you can eat.
- Most people don’t need to eat as much as they do. Dessert is usually not good for your health anyway, try to skip it more often. The size of your dish could be smaller. Eating until we feel full and nothing else could fit in the stomach is not a healthy habit.
- Eat by the schedule. Don’t take snacks in between the meals. Make every effort to eat three times a day.
- Don’t buy bottled water. Filter tap water instead.
Save on the food to eat healthier. Don’t skip meals, and don’t save by buying cheap low-quality groceries.
- Do not completely eliminate savings for the emergency plan. If you can’t put aside 20% of your income, 10% is good enough. If you already filled up your emergency fund, start investing: 10% of your income is better than nothing.
- Savings on clothes. You are young and want to look stylish. That’s understandable, even though it’s a “want” – not a “need”. There are plenty of discount stores and discounted items in the stores. Clothes can be very cheap these days. There are also very cheap online stores. If your figure is more or less typical, smart shopping online can save you money. It is also okay to accept gifts from your friends – if something doesn’t fit them anymore but fits you, there is no shame to take it. You don’t need too many pieces of clothes, but make sure that you really love the look and comfort of the pieces you own.
If adjusting expenses alone still doesn’t bring ends to meet, you must get more income.
If you already brought your expenses to the minimal, and there is still not enough income to cover the basics, then ask yourself “why?” What can you do to increase your earning?
- Do you feel like you are a valuable worker at your current place of employment? Then, ask your manager for a raise.
- If you can’t get a raise, find a better paying job. Yes, you can. You just need to think what else you can do, what other skill sets you have, and start actively looking and applying.
- Can you work part-time a second job? Then, find that second job.
- Your second job could be for another employer.
- If you have a car, you may start driving Uber or Lift.
- Freelancing is another option that offers you time flexibility.
- You can start your own business.
Any self-employment requires an investment, but it is minimal if you do certain freelancing, certain work under a legit MLM company, or build your own online business.
Freelancing would require your own tools and equipment, but for example, if you offer writing services and you are reading this article on your computer, there isn’t much of an additional equipment required – the computer should satisfy the need.
The cheapest and easiest way to start your own online business is to build a website and use it for an affiliate marketing. The downside is that this will require a few months before you rank in the search engines, get some traffic to your site, and it starts generating the revenue. So, if you are in an urgent need for an additional income, this might be not the best option for you. But keep it in mind for some other time because online affiliate marketing produces great benefits.
Whether you work for another employer, or for yourself, selling your labor per time unit has its limitation – the time. Doing online marketing, once you start getting conversions on your website, you’ll start earning a passive income. It means that the job you’ve done once will bring revenue over and over again. Thus, you’d be generating an income that does not depend on your time anymore, and therefore theoretically unlimited.
Creating your own branch of business under a legitimate MLM company is also beneficial because of the possibility of the future passive income (cumulative small commissions from your team members’ sales).
Once again, there is no such thing as quick and easy money. Creating your own business during the after day-job hours is a great long-term solution to supplement your income. The best time to start building your business is when you are able to live debt-free for several months (or even a year) on your current income, even if you can’t afford many high-priority “wants” on your list. Building your business (online or offline) is a serious time commitment, especially during the first several months. Do not expect any revenue within the first 3+ months. If you manage to earn some money this early in the process – enjoy an awesome surprise, but do not count on it when planning your budget. If your business picks-up and goes really well, at some point in the future you may decide to quit your day job and work only for yourself.
Acting smart, living debt-free and saving towards your future rather than competing with your peers in looking cool and stylish and spending over your available budget is the best favor you could do to yourself when you are young.
10 tips for managing your finances responsibly:
- Correctly identify your real needs and wants
- Write down your budget plan
- Find a bank most beneficial and convenient for you and open a checking account. You’ll get a debit card to go along with it. Only use your debit card if you must pay cash.
- If your employer offers direct deposit of your paycheck to your bank account, use the option as it may give you some additional benefits at the bank
- Open another account for your emergency fund savings (Savings or Money Market).
- Apply for a credit card with great benefits, and use it to pay for everything, pay it off monthly. DO NOT carry any balance (even a cent) over to the next month: over time, it will cost you too much.
- Whatever you do, stay away from getting debts. The only acceptable debts are education loan, car loan, and mortgage. The last two you only take when you can afford monthly pay-back amounts without hurting any other parts of your budget plan.
- Balance your budget. If your income doesn’t cover all your spendings, analyze and cut down what you spend. If your income is still lower than even only required expenses, you must work smarter and harder to increase your income.
- If you must earn extra money immediately, find a second employer, drive Uber, or offer freelance services.
- If you have time to get your own business rolling – that’s the best option to increase your income.
A Bonus Tip: when self-employed, do not forget to make your quarterly tax payments!
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