Managing Finances

For years, Iron Man and I felt that we were okay financially. Although we did not have a budget, we were heavily funding a 401K and college savings for our children, we had no debt other than the mortgage and the car, and we never spent more than we made. We used credit cards almost exclusively and were often surprised by the balances, but we always paid the full balance each month. We spent most of the income that flowed in each month, and occasionally tapped into our savings account whenever an insurance premium was due or we had what we considered an unexpected “emergency” (such as new tires or a household repair). We took no income tax deductions though, and we looked forward to our yearly income tax refund which replenished our savings account. By the grace of God, we never fell into debt and always had enough, but we had no plan for our money, no knowledge of where our dollars were heading, and we were not really in control of our spending.

We discovered Dave Ramsey’s radio show, and were intrigued by Dave’s advice to work toward living debt-free and achieving financial freedom. His principles are very commonsense, yet revolutionary for those who have never learned this way of thinking and living. One of the most important decisions that Iron Man and I made as a result of listening to Dave’s advice was to implement a budget. Later, I will share some of Dave’s other principles, but first, I would like to share with you the budget system that we use.

You Need A Budget: A Practical Application

Before beginning a budget, Iron Man and I could easily see the benefits of using one, and we clearly understood the purposes behind it: to give each dollar a job, and to ensure that our spending stayed within clearly defined boundaries. However, we were a bit bewildered about how to go about implementing a usable approach. We had heard of the “envelope system,” where people put cash into envelopes for each spending category. Under the envelope system, when the cash in an envelope runs out, no more money is spent in that category until the following month. This sounded like a great system, but we opted not to use it because we knew that we would never stick with it. Among our myriad of reasons were:

• We were spoiled by the convenience of credit cards. The sudden switch to a system based exclusively on cash would be too dramatic a transition for us.
• Even if we did resolve to go to mostly cash purchases, there would still be occasional checks written and debit or credit card expenditures. We could not figure out how we would reconcile checks or electronic payments with a cash envelope system.
• We knew that we would not make regular trips to the bank to fund the envelopes with physical cash.
• Iron Man travels frequently, and might forget to take cash from a particular envelope for gas, food, etc.
• We were not sure how to divvy up the cash between the two of us for categories such as food, auto fuel, clothing, and “miscellaneous.”

After searching for a budget system that would work for our family, I discovered a fantastic budgeting sytem called You Need A Budget (YNAB)that allowed us to put Dave Ramsey’s principles into action. Instead of using paper envelopes, this spreadsheet system sets up “virtual” envelopes for our spending categories and keeps track of the amounts spent and amounts remaining in each category. It includes:

• A “Register” page where all income and expenditures are entered
• A “Budget” page where allocations are made into spending categories. This page tracks the amount spent and the amount remaining in each category
• A “Scheduler” where we have the option of setting up regular expenditures so that they will be automatically recorded each month
• A “Reports” page that gives a nice overview of our inflow/outflow habits
• An exceptional user’s guide that not only explains how the system works, but also includes a great deal of wisdom about financial practices in general.
• At the beginning of the month, we look at our total income from the previous month, and we allocate dollar amounts in each spending and savings category. As we allocate the dollars, we can see the total available balance decreasing, and we continue allocating until the available balance reaches zero. (Note: A common misconception is that “allocating” dollars means spending every dollar. It doesn’t. It simply means planning which category that money will eventually be used for, whether it be savings, clothes, fuel, or the property tax bill coming due in three months.) This is a very eye-opening experience, and it goes hand-in-hand with Dave Ramsey’s principle of “zero-based budgeting,” which I’ll explain more about later.

Instead of removing cash from physical envelopes, we record our receipts each time we spend money, whether we paid by cash, check, or debit card (we no longer use credit cards at all). For example, each time I go to the grocery store, I enter my expenditure into the “food” category. The YNAB budget tells me exactly how much money remains in my virtual food envelope. If I am nearing the end of my food money, I need to be very conservative in the meals I prepare until next month. If I overspend in any category, that money is taken from next month’s total available income.

If I spend less in a category than budgeted, the extra money is carried over to next month’s available balance for that category. For example, suppose I allocate $50 in January toward “car insurance.” I do not pay car insurance in January, so YNAB carries that $50 over to car insurance for February. In February, when I once again allocate $50 toward car insurance, my budget will show that I now have $100 available for car insurance.

You Need A Budget is a very affordable and practical system that has made personal budgeting about as simple as it can get. You can check out the system at YouNeedABudget.com.

Benefits of Having a Budget

• We have more control over our spending: We have a plan for our money, we spend less and save more, and we are working toward the goal of living debt-free.
• There is a great deal of freedom and relief that comes from having a budget. I used to feel guilty every time I spent any money, even when I was spending on a genuine need. I no longer have to feel guilty when I spend within the amount that was allocated, because I know that is what the money is there for!
• We can allocate money toward those expenses that only occur once or twice a year, such as property taxes, insurance premiums, or Christmas. Even though we are not spending money each month on those categories, we can see the allocated amount increasing each month. When the expense comes due, that category is fully funded to meet the expense, and there are never any surprises.
• There is no longer any question of whether something is affordable for us or not. We always know exactly how much cash we have available for home maintenance, education, clothing, food, gifts… everything.
• We have a practical plan if we want to save for a piece of furniture, a remodeling project, or a vacation.
• The discipline of regularly saving money has freed us from using our income tax withholdings as a savings plan! We now accumulate interest on the money that we save, rather than loaning it to the government, interest-free.

A Few Highlights from Dave Ramsey

For anyone who is not familiar with Dave Ramsey’s principles, I’d like to share a few highlights that were very useful for our family. In particular, I’d like to share Dave’s concepts of “Zero-Based Budgeting,” the “Baby Steps,” and the “Debt Snowball.”

Zero-Based Budgeting

The idea behind zero-based budgeting is to set a purpose for each and every dollar. After determining your spending categories, you allocate an amount in each category, each month, until your entire income has been allocated. You allocate toward basic necessities, debt, savings, and every other area of spending, until you have zero dollars of income left to apply. Dave calls this “giving each dollar a job.” He even recommends that you allocate dollars toward a “Blow” category. To paraphrase Dave… you are going to blow some money each month, and that is fine, but plan for it!

Dave also points out that items such as insurance premiums, new tires, and Christmas are *not* emergencies… ouch! We know that these expenses are going to occur at some point, and in many cases, we know exactly when they will occur! By setting aside money each month toward these categories, we will not have to dig in to our emergency funds or savings accounts to fund them. This was probably the biggest one for Iron Man and me.

The Baby Steps

These steps are to be completed one at a time, not simultaneously. I have taken this list directly from Dave Ramsey’s website:

1. $1,000 to start an Emergency Fund
2. Pay off all debt using the Debt Snowball
3. Three to six months of expenses in savings
4. Invest 15% of household income into Roth IRAs and pre-tax retirement
5. College funding for children
6. Pay off home early
7. Build wealth and give!
8. Invest in mutual funds and real estate

The Debt Snowball

A simple and practical approach to getting rid of debt. Here’s how it works:

1. Make a list of all your debts in order of smallest payoff balance to largest.
2. Attack the smallest debt first. Maintain minimum payments on everything else, and focus your attention on putting as much money as possible toward getting this debt paid off. By starting with the smallest debt, you achieve more immediate results, and this success will make you more likely to stick with the plan.
3. After the smallest debt is paid off, take all of the money that you had previously been spending on that debt (the regular payment plus the extra principle), and put it all toward the next smallest debt. Continue until this debt is paid off.
4. Continue stepping up to the next debt until all debts are paid in full, except for your mortgage. Paying off the house comes later on in the “Baby Steps.”

Recommended Resources

• You Need A Budget: Simple, Effective, Powerful Budgeting System
• The Total Money Makeover: A Proven Plan for Financial Fitness, by Dave Ramsey
• Dave Ramsey’s Website