Increase Revenue, Decrease Cost

This lecture (post) is part one of a two part series covering the basics of budgeting.

Welcome to Budgeting 101: Budgeting Theory

Given that all readers have successfully passed Income Allocation 101, we are ready to explore the second funnel your money trickles into, expenses. The first lesson within this series will explore the theory behind budgeting and gain an understanding of a budgeting universe.

In order to understand the theory behind a budget, we should re-visit a key concept from Income Allocation 101: your savings funnel establishes the direction and monetary discipline of your expenses. Often times individuals believe that income allocation is a steady balance between savings deposits and expense payments, as presented below:

A more appropriate model has the individual determining his/her required savings allocation, and subtracting that savings allocation from total income to build a base budget:

The theory behind this approach: individuals have the opportunity (or are strongly encourage) to build savings before worrying about cable bills. By understanding this theory, we can quickly assemble our budgeting universe. Let’s say, for example, you were able to calculate that you need to save 9% of your annual income for retirement, 4% for emergency savings, and 2% for a family vacation. This means that 15% of your adjusted net income will be dedicated to savings categories, leaving the remaining 85% for expense management. If this individual brings in $70,000 a year, or $56,000 after taxes, he/she will have a yearly budget of $47,600 ($56k x 85%). In short, this individual’s budgeting universe is a little less than $4,000 a month.

The next lesson (post) will attempt to explain the various processes and methods for budget creation and maintenance.