If you have short-term debts (credit cards, car loans, store accounts, and personal loans) you have enough income to start saving for Financial Independence. I my last post, “Give Yourself a Raise By Paying Off Short-term Debt,” you read about how to free up money each month to save towards Financial Independence by paying off your debts and not having to make the monthly payments. To help pay off your debt and so you don’t get back into debt you’ll need a budget.

There are many good software programs and apps that can help you with a budget. But, from personal experience, those won’t work so well if you’re someone who looks for ways to rationalize spending outside your budget.

Why I Needed a Budget

Years ago I was a terrible manager of my money. I remember being near the end of the month and seeing that there were a couple hundred dollars in my checking account even though I had paid all my bills. I’d conveniently “forget” that the extra money was for a bill that was coming up a month or two later, so I would spend it. Then, when that bill came due, I’d find myself short of funds despite my having prepared a good budget. I finally decided to come up with this effective method that helped me live within a budget.

Planning Your Budget

First, list all the categories of everything you spend money on during the month. This includes rent (or mortgage payments), food, gasoline, utilities, insurance, church donations, each of those short-term debts, and so forth. I recommend that you also include categories for eating out, fun, and spending money. Don’t forget to include categories for larger bills that don’t get paid monthly—things like car insurance, family vacations, or Christmas.

Creating a category that is very general, like “Food,” may be easier to manage initially. However, you may decide that your categories need to be more specific, such as: groceries, eating out, and snacks. You’ll determine how specific you need to make your categories. Don’t worry if they don’t work out for you in the beginning–you can adjust them as you go.

Then, next to each category write down what you estimate to be your monthly expenditures in that area. For some categories, like rent or mortgage payments, it’s easy to know exactly how much to budget; while others, like food or gasoline, you’ll have to estimate. This may require you to make some adjustments to how much you budget for those categories in the following months.

For the larger bills that are paid every few months figure how many paychecks you’ll receive between the time you plan the budget and when you’ll need to pay that bill. Then, divide your total by that number to get the amount you should budget for that category each paycheck. If you want to have $1,000 for Christmas and there are 10 months to go, you’ll need to budget $100 / month .Obviously, the total of all these categories must be equal to, or be less than, your monthly income. If it’s not, you’ll need to make some choices as to where you can reduce your spending.

Adjusting Your Spending

Over time most of us tend to get lazy, or sloppy, with our spending. We continue to pay for goods and services because that’s what we’ve always done even though they don’t provide the value to our family that they once did.

Take this time to critically review each expense category to see if there’s a way to save a few dollars each month by reducing or even eliminating that expense. It’s a good idea to do a review of all your spending categories at least once a year to see if there are ways you can reduce or eliminate spending in those areas. Take a look at things like:

  • Reduce or eliminate the times you eat out each month. If you or your spouse eat out from work, consider taking your lunch at least a few days a week.
  • Reduce or suspend your cable or cell phone plans until you complete your debt elimination.
  • Consider selling a newer car that you’re making expensive payments on. With patience, you’ll be able to find a well-cared for used car that you may be able to pay for outright, or at least reduce your car payments considerably.

Preparing Your Budget

Next, buy a box of legal-sized envelopes and make an envelope for each category in your budget by writing the category name on an envelope. Then put three pieces of clear tape (the kind you can write on) on the envelopes. if this was a category like Utilities where only a single payment is made each month label the first piece with the due date for the next payment. Label the second piece of tape as the amount budgeted for that category, and the third piece of tape would have the balance that is inside the envelope.

Loading Your Budget

The night before you receive your paycheck go through your budget and determine what denominations of bills are needed to fill each envelope. For example, your cell phone bill may be $136. You’ll need six $20s, one $10, one $5, and one $1. You may need $50s or $100 bills for your rent. Then add up how many 20s, 10s, 5s and so on you’ll need to fill all the envelopes with the proper amounts.

On payday go to the bank and withdraw your entire paycheck asking the teller to give it to you in the number of each denomination of bills so you can fill each envelope with the correct amount. You may need to get 23 twenties, 7 tens, 8 fives, and 27 ones. As odd as this sounds, bank tellers have never given me any problems filling this request. Then go straight home and fill each envelope with the budgeted amount of money.

Executing Your Budget

Throughout the month only pay for things with money from the appropriate envelope. If, on the way to buy groceries, you plan on stopping to buy gasoline for the car, put money from the Groceries envelope in one pocket and money from the Gasoline envelope in another pocket. When you buy gasoline, use Gasoline money, and when you buy groceries, use Grocery money. When you get home put the change from the gasoline back into the Gasoline envelope and the change from the groceries back into the Groceries envelope.

Near the end of the month you may find that you’ve run out of money in some envelopes. You might not have any more money in your food envelope, but there may be a few dollars left in your Gasoline envelope. If you know that you have enough gasoline to last until the next paycheck you may decide to move money from there into your Groceries envelope. This is good because you’ll learn that you either need to budget more money for groceries, or make a plan to spend less on them next month. Taking the money from another envelope shows you what the consequences are for over-spending in another category.

Don’t Forget Emergencies

An unplanned emergency can derail weeks or months of good budgeting potentially causing you to go into (or deeper into) debt. Everyone has emergencies that pop up—an unexpected medical bill, or a set of new tires for the car—something. You need to budget for emergencies by having an Emergency fund.

It’s important that you use this money ONLY for emergencies and not as a slush fund to supplement overspending in other categories. Budget some money for this every month and discuss with your family exactly what kind of emergencies this money will cover.

An emergency fund is a sort of self-insurance. The purpose of this category is to protect the integrity of your budget and financial plan. You pay the premium to yourself and build up your fund. How much you save in this fund is up to you, but I like to have enough to get me through any emergency with enough time to replenish the fund.

Instead of having an envelope for this category, you’ll be better off keeping it in your savings account. Many banks will allow you to open a separate savings account (some times with the same account number) that you can use for something like this.

Having and using a budget will teach you a lot of things about how you spend money. You’ll find that you spend more money in some areas than you thought you did. After using this method of budgeting for a time, you may be able to move away from it later once you get a good handle on things. But you may find that you need to stay with this method to help with your financial discipline.