One of the things I love about personal finance is that there are no “right” answers. There are certain aspects where one option has a longer list of strengths than another option, but even then there will be some people for whom it’s better to go the other way. It comes down to the old cliche that “personal finance is personal”. We can solicit all the advice in the world, but in the end we have to choose our own path.
Budgeting is one of those things that, despite the almost ubiquitous advice that you need to keep one, continues to mean different things to different people. Today I’d like to compare two different methods: keeping a budget vs. tracking your spending.
What does it mean to keep a budget?
To me, in its purest sense keeping a budget means that you set hard limits on your spending. As an example, if your monthly grocery budget is $500, then you don’t allow yourself to spend more than $500 on groceries in any given month. This can be a pretty effective way of making sure that you’re truly living according the financial goals you’ve set for yourself.
One way to do this is to use an envelope system, where you literally have an envelope for each budget category and put the budgeted cash in each envelope at the beginning of the month. Once the envelope is empty, your spending for that category is done until next month’s refill.
You could of course do something similar while tracking everything electronically or in a spreadsheet. The main point is that however you do it, you truly limit your spending to the budgeted amount in each category.
What does it mean to track your spending?
Tracking your spending is a much looser way of keeping your spending in line. You will still likely fill out a budget that defines your desired spending levels across the various categories. But your month-t0-month spending is not strictly limited by those budgeted amounts. Even if your budgeted grocery amount is $500, you might let yourself spend $600 one month. There is no hard cap.
Instead, you keep track of your spending and make sure that your long-term averages are fitting within your budget. Sure you spent $600 on groceries this month, but maybe you only spent $400 last month. Over time, your average spending is falling in line even though the month-to-month numbers may not.
This takes a little bit more discipline, and it also takes a little more effort to track. I use a combination of mint.com and a spreadsheet that I update once per month with our spending from the prior month. The spreadsheet shows me our average spending in each budgeted category over the last 3, 6 and 12 months. This allows us to evaluate our long-term behavior against our goals and make sure we’re staying on track.
Which one should you use?
And now, ladies and gentlemen, the moment you’ve all been waiting for. Which one of these methods should you use to build a life full of happiness and prosperity? Drumroll please…
And the winner is?
It’s up to you.
What, you were expecting something different? Didn’t you read the opening paragraph all about there often not being a “right” answer to personal finance questions? Silly you.
Ok, let me say this. If you’ve never kept a budget before you should probably start by simply tracking your spending. Don’t even try to write out a budget beforehand. Simply record every purchase you make, put it into a category, and see how things look after a month. Do the same thing the next month, and only then should you start really trying to implement one of these systems. It’s impossible to know how to move forward if you don’t first know where you are.
But once you’re past that point, it’s really up to you. The most important thing is that you budget from a place of passion, first identifying the things that are truly important to you and making those a priority in your spending plan. Let the rest fall in place however it makes the most sense to you.
People love to talk the technical side of money, myself included. We like to talk about whether you should pay off the debt with the highest interest rate first or the one with the biggest balance. Whether you should invest in active or passive mutual funds. Whether you should keep a strict budget or not. The list goes on and on.
The reality that while those things matter, the part that’s truly important is finding whatever it is that helps you reach your goals. If your way of doing something is “wrong” in someone else’s eyes, so what? If it’s doing the job for you, keep it up!
Getting control over your spending is an important step along your financial journey. How you do it is not. Seek out advice from people who’ve done it and then find your own way. That’s the way to make it stick.