03 - Budget is NOT a Four Letter Word!

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“The lack of money is the root of all evil.”

                       George Bernard Shaw

All You Need To Know 

The average college graduate will have a starting salary of about $35,000 this year.  Not sure where I got that but it is ok for a starting point.  That means you will make $2,917 a month but you will KEEP only $1,895 after taxes and deductions.  You will have to learn to live on this amount using a budget.         

Start with your paycheck.  Deduct your expenses starting with rent, than food, then utilities and so on.  If after all the expenses you still have some cash left over, that is your budget.  If you don’t have cash, look over your expenses and eliminate (this is the hard part) enough of them till you have positive cash and that is your budget...to begin with.  Read on for the details or just live with what you just figured out.  It’s up to you.  The only absolute key to financial independence and wealth is to spend less than you make.

The Details - The B Word
I don’t like budgets.  The word smacks of deprivation, denial, not getting what you want.  Financial planners and personal finance writers love, and I mean love, to write about how not going to Starbucks and not getting some kind of latte will save you a lot.  Stop buying lattes and you are on your way to financial freedom.  Get Starbucks out of your life and budgets take care of themselves.  But lots of people like, no love, Starbucks or there wouldn’t be so many of them.  And, if you are one of those people, great.  Go to Starbucks and order what you want.  To me coffee is just a drug but if you want Starbucks, go ahead.  I’m not going to stop you.  Drink lattes till you drop. 

But, spend less on something else. 

This concept has a name.  It is taught in every finance course and every well-run corporation worldwide.  It is the Capital Asset Pricing Model and like all great concepts, it is simple.  It states that there are always more projects than there is money to fund those projects.  You know this instinctively-you know you cannot afford to live, alone anyway, in Trump Tower on $35,000 a year.  You may be able to afford the payments on a Porsche but not much else so the Trump Tower and the Porsche are out, at least for now.  But you can afford Starbucks. 

The Capital Asset Pricing Model makes YOU determine what is important to YOU and what YOU are going to spend YOUR money on. 

There is another concept that is taught in every university, usually in Psych 101, and that is the Hierarchy of Needs.  Needs says that food comes before shelter, shelter before clothing, clothing before something else and so on…a Hierarchy of Needs.  Your personal Hierarchy of Needs and your own personal Capital Asset Pricing Model will determine how you spend your money.  Not a budget. 

Note: Absolute dollars mean nothing while percentages mean everything.  $35,000 or $50,000 or even $75,000 may be starvation wages in New York while small fortunes in Omaha.  It is necessary to think not in absolute dollars but in percentages as in my rent is 35% of my salary, my car payment is 15% of my salary, utilities are 10% of my salary, savings (including the 401(k)) are 15% of my salary and so on.  It pays to learn how to do the percentages correctly.  Math mistakes involving percentages can be costly, both to your finances and your career.

Percentages limit your resources to a definable amount.  You cannot have more than 100% of something.  When expenses exceed 100% of the money available, you are broke.  (There is one way around this problem and we will address it in the next chapter.  The only problem with the solution is that it is absolutely the worst thing you can do to your financial freedom.)  Let’s see how percentages work with our hypothetical salary of $35,000. 

You have $1,895 to live on for a month.  Hold it, you say, I make $35,000 which divided by 12 months is $2,917 a month, not $1,895.  That’s true.  You make $2,917 a month BUT you take home, put in the bank, only $1,895 because the difference goes to-

• Gross Salary                                      $2,917                    100%
  401(k) Contribution                                  292                      10%
  Taxable Income                                   $2,625                      90%
  FICA (Social Security/Medicare)                263                        9%
  Federal Withholding Tax                           267                        9%
  Medical Insurance                                     200                        7%
  Net or Take Home                              $1,895                      65%

Out of your gross you have to fund the government (income tax, Social Security, Medicare) and your retirement and medical insurance so when everything is all said and done you have $1,895.  We will discuss all of these items in later chapters and how you can tweak them but for now here is your budget based on take home of $1,895.

Beginning Cash                                            $1,895                     100%
                        -Rent                                         566                        30%
                        -Food                                         285                        15%
                        -Clothing                                    190                        10%
                        -Car Payment                              190                        10%
                        -Student Loan                             190                         10%
                        -Electricity, Cable, Cell                190                         10%
                        -Other, aka, what’s left over       285                         15%
Ending Cash                                                    $    0                                    

But you get another paycheck and the process starts over.

The observant Liberal Arts grad will note this budget follows the Hierarchy of Needs-food, shelter, clothing and so on.  Money has to go first to the fixed expenses and what is left over is the fun part so our goal is to minimize the fixed expenses to maximize the amount available to spend on the fun stuff and also to invest which will lead to the big payoff in the form of wealth creation.    

Everyone and everywhere and every budget is different.  The sample budget is just that, a template to play around with.  For example, try to find an apartment for $566 in New York so we increase that allocation to 45%, or $850 which still might not work (solution-get a roommate) but at least you don’t need a car because you are in New York which frees up almost two hundred dollars a month.  And maybe the parents were really great and paid for all of college so no student loans freeing up another two hundred to spend on that apartment or beer or dinners out or savings (had to throw that in.)  If they did pay for college, call them this weekend and thank them-no big deal for you but it will make them happy.  The key, again, is to cover the basics, the Needs in the Hierarchy, to free up money for the fun stuff. 

Congratulations, you’ve done a budget.  And budgets, like diets, are easily broken.  As W.C. Fields said, “I can quit drinking.  I’ve done it a thousand times.”  The way to keep on budget is to track it and the modern banking system is the answer.  The best tools for cash management and budgeting are the debit card and electronic banking.  On-line banking eliminates any excuse for not knowing how much money you have at any point in time. 

So track your budget by using your debit card for everything possible which, these days, is almost everything.  Forget cash and avoid the ATM because cash will go through your fingers and you won’t remember where you spent it.  Cash should only be used for cabs and tips so quit taking cabs and quit tipping-you can’t afford either at this point. 

There are only two groups in society that love cash-drug dealers and politicians.  They love it because it can’t be traced.  There is even a name for this in corporate finance—funds are fungible meaning cash can be used for anything and can’t be traced.  Well, it can but not easily.  So use your debit card and be sure to put the receipt in your pocket and not the bag.  Pull out the receipts at the end of the day and enter them in your checkbook register. 

Each month, better each week, record the expenses from the register in the appropriate category in the Hierarchy of Needs and compare to budget.  Over time, trends will emerge and adjustments made.  Don’t jump out a window if you go over in a category; just don’t let it happen again or better yet, adjust your spending in another group to make up the difference.  And if you keep screwing up at least you know where and why.  Knowing a problem exists is the first step to solving the problem.

That’s it.  The budget is in place to handle the money you have left over after paying taxes and other non-fun stuff.  And you have covered the basic necessities in the Hierarchy of Needs.  And you have some money left over. 

But you know deep inside that you are going to bust the budget and you even know how.  Well, so do I.  It is the call of Citibank, Capital One crack…the credit card.