Creating the Right Mindset

Why is budgeting important?

You will never know how you are doing without measuring it in a factual manner. Likewise, you cannot improve if you don’t know what you need to improve upon.

Numbers don’t lie, and your budget will be the best reflection of how well you control your spending.

The first question I ask people who tell me they have difficulty saving money is, “how much are you spending each month on _____?” If they can’t give me a definitive number, then therein lies their problem. I liken it to people who say they can’t lose weight. If they don’t know how many calories they are taking in and how many calories they are burning per day, then how do they expect to have any grasp on the things they can improve on in order to see results?

A budget is necessary in order to track progress. People will usually try to ball park their spending, but it never works. Why? Because we always underestimate how much we spend. It’s human nature. We want to appear better than we are, so we subconsciously choose to cheat, and tell ourselves that we did better with the spending last month than we actually did.

It’s difficult to understand what’s keeping us from financial freedom if we do not know where our money is going. Budgeting will teach you a lot about what you spend money on, what you prioritize, and what you value.

It will show you what you want in life.

Deconstructing Negativity

Budgeting, for whatever reason, gets a bad rap. Hearing the “B” word is enough to make some people cringe. I know, because I say the “B” word a lot.

People have a lot of negative perspectives around budgeting, but I am here to deconstruct those false impressions once and for all. Mastering your budget will be very difficult if you are resisting the entire way. In this lesson, I take all the excuses people give me about why they shouldn’t have a budget, and provide reasons why these views can be misguided.

  • It is difficult” – With this course, you will learn the steps to creating, maintaining, and improving a budget in an easy manner. The aim here is to make budgeting easy to set up, automate, and continue to do. Additionally, budgeting is a habit. You may have weak budgeting muscles now but with practice over time, budgeting will become just a way of life. Plus, once habits are formed, they become second nature, and therefore, very easy. (Did you know that it takes 21 days for someone to form a habit?!)
  • It is depriving” – Budgeting is NOT about deprivation at all. The thing about budgeting is that it is personal. Everyone has different personalities, life goals, and priorities. You want to shape your budget around the lifestyle you want to lead, not constrict you from ever spending any money in the name of budgeting! Mastering your budget is not about cutting off ALL spending. It is about cutting off excess spending on things that don’t serve you or move you towards your future goals and aspirations. If budgeting was depriving, it wouldn’t be sustainable and no one would ever succeed. Understand that the point of mastering your budget is to take that first step in gaining control of your personal finance in order to lead a lifetime of happiness.
  • It doesn’t let me lead the life I want” – On the contrary, it sets you up to be able to lead the life that you want. Money is a tool, and we can use it to have the freedom to quit our jobs, travel around the world, pursue a different passion, and more.
  • It’s a lot of work”- I try to simplify budgeting as much as possible. After setting up your budgeting tool correctly, budgeting should involve minimal work. Every month, I spend less than twenty minutes on my budget.

Retro-active Budgeting VS Pro-active Budgeting

Let’s get one thing straight. Retro-active budgeting is NOT budgeting.

I used to think I knew what budgeting was. I used to think budgeting was a ballpark guess of how much I was spending each month on different things. I thought budgeting meant setting a goal in my head of how much I wanted to spend on something (for example, groceries), and then seeing how much I actually spent at the end of the month. Then with a shrug of the shoulders, I would whisper to myself, “Better luck next month”. This is not budgeting! There is absolutely no control in this method.

Some people do something similar and I refer to it as retroactive budgeting. At the end of every month, they look at their spending and try to compensate for any categories that they overspent in. Unfortunately, sometimes the overspending spans all categories. With retroactive budgeting, there is no way to ensure that your spending is less than your income. It may be that you reach the end of the month only to regret spending your money on that dinner the other night. Too bad you can’t regurgitate the money back!

What we want to practice is proactive budgeting. We need to make decisions on whether or not to purchase things based on our budget BEFORE we actually buy them. In order to be really good at proactive budgeting, we need to discuss the ENVELOPE SYSTEM.

The Envelope System

Before we can even talk about starting to set up a budget, we need to first imagine that credit cards do not exist. Why? Because credit is the bane of every heavy spender’s existence. Credit cards give you the ability (and the excuse) to spend money you don’t actually have. Credit can get you in a lot of trouble, without you even knowing it.

What we need to do is to close our eyes and travel back to a time when credit cards did not exist. Travel even further back than checks and balances. We need to pretend like our money is entirely physical. Pretend that you live during a time when there were only dollar bills and coins, and when you got paid in such. By pretending that every single dollar that comes your way is tangible, we are able to really have control over the money we spend, because if there is no physical money to spend, then there is nothing to control.

So let’s say you get paid today. Your pay comes to you in dollar bills and coins (ick! I know). What are you supposed to do with that money in order to proactively budget during a time when budgeting tools did not exist? You place them in envelopes, each titled a certain category!

And this is how we create an envelope system for budgeting.

The envelope system uses the metaphorical imagery of envelopes to define a categorization that needs to take place. Let’s say you have physical envelopes that represent different categories. Every time you receive your paycheck in cash, you would allocate your dollars towards certain things and you would put those dollars into their appropriate envelopes. For example, money designated for groceries will go into the envelope labeled “Groceries”. Money also needs to be set aside for rent, so you definitely want to take some of your paycheck and place money in the envelope titled “Rent”. And so on and so forth, you would put away your dollars until every single dollar is accounted for inside an envelope. If you were like most people, I would bet that you would take a majority of your income and place the dollars into envelopes that ensure your survival first, such as housing, food, and health. This is something we don’t really think about now that there is a large amount of imaginary dollars that we can always fall back on (aka credit).

Now, whenever you want to buy something, you need to physically pull out the dollars that you will pay with from the designated envelopes. When you go to the grocery store, you will need to pull out money from the “Groceries” envelope. As you can quickly see from this example, this system makes it impossible to ever over-draft. When money is made physical, you are forced to spend less than you earn. If you are sitting at the check-out line and the cashier asks for $20 when you only have $15 in the envelope, your only option is to remove something from the cart in order to make your bill equal to $15. Or, if you happen to carry all your envelopes with you wherever you go, you have the option of taking money out of a different envelope and putting that into groceries. Say you cover the $5 by taking it out of your envelope labeled “Dining Out”. Now, your decision to buy more in groceries affects your ability to dine out.

Unfortunately, millions of Americans do not think in this manner. “Just charge it to the card and worry about it later,” is a common mantra. But in order to master the budget, you can’t allow yourself this flexibility. You need to set boundaries, as if there were physical boundaries to spending. Do this, and you will never over spend a day in your life.

A quick note on credit cards: I am not saying “get rid of credit cards all-together”. As you will see later, credit cards are very useful! But for the sake of this portion of the course, let’s just talk about setting up a budget in terms of the envelope system, as if credit cards did not exist.