Backward Budgeting, How I Budget

A while ago I wrote an article titled How to Save, Part 1: Budgets Suck. In it, I explained all of the issues I have with the way that most people are taught to budget. I believe those issues are the reasons why so many people fail at budgeting, and thus fail to save as much money as they should.

But as the old saying goes, “don’t complain about something if you don’t have a solution.” So in this article I’ll walk through the method I personally use to budget and save money. I don’t expect my method to work for everybody, but maybe there are a few tips and tricks that you can implement.

Let’s get to it.

Backward Budgeting

Before I get into the details, I think it will help to explain my overall philosophy when it comes to budgeting.

I believe the only reason people budget is to help them increase their savings rate (which you can learn how to calculate right here). So unlike most people, instead of starting with my spending, I start with my savings. I call this “backward budgeting.”

I start by calculating how much money I need to save each month in order to reach my financial goals. Exactly how to do that is a topic for another article, but for now, let’s assume that I need to save $1,000/month to reach my goals. Let’s also assume that my after-tax income is $5,000/month. That means that I can spend $4,000/month on everything else and still reach my monthly savings target.

Each month I track my spending to make sure I don’t exceed that $4,000 mark. If I do, that means I won’t be able to save my target $1,000 month and I’ll be off track for the month.

Simple Doesn’t Mean Easy

It’s that simple. I think your savings strategy should be simple. Now, of course, just because something is simple in theory doesn’t mean it’s easy to actually implement in real life.

For example, we all know how to get in shape. Eat healthy, workout everyday, and get plenty of sleep. Simple, right? It’s extremely simple, but that doesn’t mean it’s easy. If it were, we would all be fitness models. Getting physically fit is very similar to getting financially fit in the sense that they are conceptually simple, but in reality very difficult.

That’s why having a simple budgeting theory is just the beginning. You also need to make implementing this theory as easy as possible. If it’s too difficult, you likely won’t stick with it for very long. So now let’s look at the 4 tips I personally use when backward budgeting.

1. Reduce Your Effort (Use Technology)

I have news for you. That complicated spreadsheet you made. The one you spent hours on and has all the fancy graphs and formulas. It sucks. It’s too complicated and takes too much effort.

Let technology be your friend. There are so many great apps out there that track your spending automatically. I use a free app called Mint, but You Need A Budget (YNAB) and EveryDollar are 2 other apps I’ve heard have great reviews.

Make sure you sync all your bank accounts, debit cards, and credit cards so all of your transactions come through automatically. If you’re like me, you have a ton of credit cards, so having them all synced in 1 place makes budgeting way easier.

Reducing the effort required should help you stick with your budget long-term.

2. Reduce the Transactions You Need to Track (Ignore Fixed Expenses)

I also choose to ignore my fixed expenses when budgeting. Let’s walk through how and why I do this.

Sticking with the same example, let’s assume I can spend $4,000/month. That’s my total spending. First I add up all my fixed expenses like rent, student loan payments, internet, cell phone, etc. Let’s say those add up $2,500/month. I just subtract that from my $4,000 in total spending and I’m left with $1,500 that I can spend on whatever I want during the month.The benefit of doing this is that I now have fewer transactions I need to worry about. Mint helps me ignore these fixed expenses by allowing me to set up “rules” for transactions. Below is a screenshot of my monthly internet bill. I set up a rule that automatically hides this expense from my transaction history, so that it doesn’t clutter my monthly budget.

I do this with all of my recurring bills. The only time I need to revisit this is if one of my fixed expenses changes. For example, if my rent increased by $200/month, my other spending would have to decrease by that same amount.

Reducing the number of transactions you care about should save you time.

3. Reduce Complexity (Forget about Categories)

I also don’t bother with categorizing my monthly expenses.

Most budgets have you break out targets for transportation, food, entertainment, etc. But for me, I don’t care how much I spend on each of those subcategories, as long as my total spending for the month doesn’t exceed my limit (remember I already hide my fixed expenses, so this is technically my “total other spending number”). This helps me enjoy the money I do spend because I’m not worried about how it will be classified or if I went over on my restaurants category.

The truth is what I spend my money on varies from month to month. Sometimes I go on vacation, so my travel spending is higher than usual. During the holidays, my spending on gifts is more than normal. That is 100% fine with how I budget, as long as I compensate by spending less in other categories throughout the month.

So the only number I care about is my total other spending number. I watch that number go up throughout the month, and make sure it doesn’t go over my target amount.

Reducing the need to categorize each expense should make budgeting significantly easier.

4. Reduce Errors (Mint Tips)

Mint also has some very cool tricks that I wasn’t aware of for a long time. These tricks can help you handle some of the most annoying parts of tracking your spending.

Here’s one example. You go out to dinner with 3 friends and the bill is $100. Instead of making the waitress split the bill 4 ways, you put the bill on your card and just have your friends pay you for their portions later. Well when Mint sucks in the credit card transaction, it thinks you spent the whole $100 instead of just $25. Luckily Mint lets you “split” a transaction. So you can tell mint to count $25 towards your spending and to hide the other $75. Problem solved.

Another common problem is when you pay for something in cash. That means it’s not on your credit card so Mint can’t automatically suck it through. Again Mint has a solution. You can manually add transactions.

Reducing the errors in your budget should help you be confident in your numbers and stop your OCD from driving you crazy over that one wrong transaction.

Conclusion

The main purpose of budgeting is to help you save money. That’s why I prefer to start by finding my monthly savings target, and then backward budget to see how much I can spend.

Then, I try to make everything as simple as possible. That way I have a better chance of sticking with my plan long-term. So I use Mint, I remove my fixed expenses, I don’t bother with categorizing my expenses, and I use Mint’s little-known tricks to be as precise as possible.

This method of budgeting is extremely simple. That doesn’t mean it’s easy to stick to, but at least now I can spend all of my time and effort on saving, instead of keeping track of my spending. Hopefully these tips help you increase your savings rate also.

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