10. Step 5: Budget
3. Plan how to allocate a monthly income between spending and savings
It is important to note, that Henry does not have to make all the changes he came up with, and that he might very well identify better ones, such as paying down credit cards or cutting back on entertainment. The point is, he has options. He is not helpless. He need not throw up his hands. He is not that poor! By trying out different scenarios on a budget sheet, he can quickly see the effects of each option.
And, we experimented only with the expenses side of the equation for this exercise. We could have had Henry brainstorm ways to increase his income.
Ideas for increasing income
Henry might have considered:
- Looking for another job (part-time)
- Offering to assist his landlord with maintenance in exchange for reduced rent
- Turning a hobby into extra income
- Selling unwanted items
- Applying for a grant or scholarship before he starts college
When making such a decision, he should remember to weigh the cost-benefit ratio. For example, if adding part-time work would mean he had to cut back on the number of courses he would be able to take when he starts college, that might very well postpone his graduation and put off making a higher income with a better-paying job. Would that immediate increase in salary really be worth prolonging the potential for a long-term increase? That’s the cost- benefit ratio.
To reach his goal of buying a house, he might remember he “needs” a house primarily because he anticipates getting married. While another person in his household will add to expenses, the spouse may very well add dramatically to the income of the family—income that might be directed to reaching the house goal or others.
If he does increase his immediate income, he would add that figure to the Income column on the Budget, and the gap between income and expenses would increase, that would give him even more options—to increase his savings, reinstate some of the expenses he cut out, or add some “wants” to his life that he could not previously afford. Every month, Henry should see where his actual spending is inconsistent with his budget and either cut back on the overspending in that particular category or acknowledge his budget is unrealistic and tweak it.
You’ve now followed Henry through the budget planning process.