CFI Blog

Cracking the Whip on Your Money

This is part of a series. If you have not read the articles that build up to this one, I recommend that you do so first.

If you don’t know where you’re going, you’ll never get there. The same holds true for your money. If you don’t have intentionality with your spending, then you’ll spend on whatever comes to mind. This usually winds up with you spending until there’s little or no money left in the account or dipping into the credit cards to finance your spending. That’s not the way to live, and if you’re living that way, you’re probably frustrated. You feel like you should have something left over at the end of the month, but you never seem to, and credit card debt might be unexplainably piling up. We’re going to address that feeling with this article, where we cover living within a budget.

In this article, we’re going to learn the basics of budgeting and set up a basic budget. You will come back to this article again after we’ve covered debt, insurance, retirement, and children’s education planning, but for now, the idea is to give you the tools for how to make a budget and a rough priority order of where you should be allocating your money. This will prepare you to make adjustments, as necessary, as we cover the other topics in subsequent articles.

First, let’s examine two types of expenses which you’re going to be accounting for: fixed expenses and discretionary expenses.

Fixed expenses

Fixed expenses

Fixed expenses are the expenses which you have to pay every month, no matter what happens. These include debt, insurance, utilities, and required transfers such as alimony or child support.

They also include food, shelter, and transportation. You have to get to work, and you have to have a place to live. You have to eat and drink water or you won’t make it to the next article!

This set of expenses will constitute your baseline that does not change from month to month. Now, before we get carried away and let Monkey Brain justify going out to fine restaurants every night, while the necessary items are fixed, the costs could still vary. If you’re barely making ends meet, then you don’t need to be visiting restaurants and you don’t need to be eyeing a new Mercedes. Common sense has to apply. If you can’t afford it, trickery with mental accounting isn’t going to suddenly make money appear where there was none before.

Discretionary expenses

Discretionary expenses are the ones which are based on the money that you have left over each month after accounting for your mandatory, fixed expenses. It’s from the discretionary expenses that you will save for retirement, fund the kids’ college, give to charity, feed the dog, and all of the other things which you want to do in life. Yes, as much as we love our pets, they are discretionary.

Here is where we start to match up what you said was important in your life with what you’re actually voluntarily spending your money on. Do they match up? Please note that you could also be spending too much on what are considered fixed expenses that are also causing misalignment with what you said your priorities in life were. A good example would be a high housing expense. If you’re spending a significant amount of money on housing, could be living someplace cheaper, and don’t have “live in a nice house” in your top ten, then you may want to move to a house which isn’t as much of a drain on your income.

Putting It Together

This is the part where you start to take control of your money, making it do what you want it to do rather than wondering at the end of the month where in the heck your money went.

Doing a budget is an exercise in math and choices. You have a limited amount of money, and what’s left over at the end of the month must equal zero. You must pay the bills which you are obligated to pay. The rest is a matter of choice. If you don’t have enough money, you have two choices: lower how much you’re paying by finding cheaper alternatives, or create more income. It’s pretty simple conceptually. No magic.

The magic is in building a habit.

The first time your family does a budget, it’s going to be hard. You’re going to have to say no where you might not have been saying no before. The second month, it gets a little easier, and the third month, it gets even a little bit easier. Forming a budget probably won’t become a habit right away. Research shows that it takes between 66 and 254 days to form a habit.

It’s also critical that you and your spouse develop the budget together. There is no such thing as “his money” or “her income.” That’s just Monkey Brain’s way of trying to get you to do mental accounting. Since many of the money disagreements we’ve seen come from guilt, there is a way to short-circuit the guilt in purchases.

If you’ve had the “another pair of shoes?!?” or “another toolkit?!?” reaction, you know what I’m talking about. The spouse wanted something which you saw absolutely no need in and mentally pictured that money being dropped in the toilet and flushed.

The way to get around that feeling is to set aside a


fund. Each spouse gets an equal amount, and that money gets to get BLOWn in whatever way that person sees fit. There’s no requirement that the money get BLOWn every month, either; it can be saved up for a big purchase, too. If the husband wants the 183” flat screen TV, by all means, buy it. Save up the BLOW money until he can pay in cash. Same goes for those new Jimmy Choo shoes she’s been dying to have. Go for it. She can pay in cash from the BLOW fund and wear them all she wants. The BLOW fund is meant for no-holds-barred, no regrets purchases, and if used wisely, it will eliminate the source of many a disagreement.

Starting From the Top and Working Down

Starting From the Top and Working Down

The actual nuts and bolts process of building a budget is not difficult. We recommend using a basic spreadsheet, such as Excel or Google Docs. The budget is a chronological forecast of where your money is coming in and going out every day throughout the month. Start with the first day of the month, which is usually payday (or right after payday). Add that income.

Date Description Amount Running Balance
4/1/2020 Paycheck $3,750.00 $3,750.00

Then, go through the calendar and work your way through the money you know that you are going spend throughout the month. For example, here are a couple of sample expenses.

Date Description Amount Running Balance
4/1/2020 Paycheck $3,750.00 $3,750.00
4/1/2020 Mortgage payment ($1,000.00) $2,750.00
4/2/2020 Life insurance payment – him ($100.00) $2,650.00
4/2/2020 Life insurance payment – her ($55.00) $2,595.00
4/3/2020 Grocery store ($125.00) $2,470.00

Once you run out of money, you have to make decisions about the next expenses. You can defer the expenses until you get more money (common when you get paid twice a month rather than once a month), decide to forego other expenses, or earn more income.

This is where the choices come in to play and your priority list should be driving what decisions you make. When you’re forced to make a choice between two competing spending decisions, refer back to your priority list. Pick the one which aligns closest with the highest priority on your list and move on.

At the end of the month, you should be pretty close to zero. You should definitely not be BELOW zero, although having some money left over at the end of the month as a “slush” fund is perfectly fine. Sometimes the electricity bill comes in higher than we thought it would, so it’s important to have a little cash held in reserve to be able to handle some fluctuations. That cash isn’t meant to be blown at the end of the month if it’s left over, though. That’s the Monkey Brain attitude to the money. It’s meant to be spent on the next highest priority item in your life.

Once you and your spouse (where appropriate) are in agreement with where the money is going that month, you need to take two more steps.

  1. Automatic bill payments and transfers. Use your bank’s bill pay (assuming it’s free, and if it’s not, change banks to one which doesn’t charge you for checking or for bill payments), pay the known, fixed payments ahead of time. Set these up to recur automatically so that you don’t have to worry about making payments or spending the money for something else. Transfer money out of your account for other, longer-term goals, such as retirement investing, kids’ college, and side accounts (we’ll discuss side accounts and irregular expenses in the next article).
  2. Withdraw cash for non-automatic payments. Anything which you won’t be making an automatic bill payment for that period, withdraw cash. Again, you should have a bank account which does not charge you for ATM withdrawals. As we’ve seen previously, Monkey Brain hates it when you spend cash because it gives him migraines. By pulling out the cash, you’ll spend less, and you will be less tempted to come up with excuses to blow your budget and whip out the credit card.

Budgeting really is just a matter of prioritizing your spending, making a plan, and then executing against that plan. There’s not really much magic aside from getting over Monkey Brain’s desire not to make a budget and living within a plan. It does take dedication and it does take intention. At first, it will also take time and may take some difficult discussions, as you’re possibly going to force yourself to say no more than you have in the past. Once you get into the habit, though, it is very liberating, as you know where your money is going, and, more importantly, you know it is going where you want it to go.

Why haven’t I included a budget spreadsheet as a template? I want you to build it yourself or write it down by hand yourself so that you understand how everything is put together. If you go to the Internet and find a budgeting spreadsheet, then you’re going to anchor yourself to those categories. Start out by building your own. Once you’ve done it for a couple of months, if you want to adapt yours to an existing template, that’s fine, just don’t start out using an existing one. Invent the wheel for yourself first.

Measuring Your Budget Accuracy

It’s one thing to make a budget on a regular basis. It’s another thing to stick to the budget. Most of us, if we budget, are very good at the forward-looking part of the budget – figuring out how much we’ll spend in the next month, but we’re terrible when it comes to accountability – did we actually spend what we said we were going to spend, or did we overshoot (or undershoot) in our spending?

That is why it’s important after each month to review your spending and see just how much you actually spent. There are two reasons that we want to do this:

  1. To improve the accuracy of our estimating going forward, and
  2. To identify, if necessary, where there are leaks in our spending

Let’s say, for example, that we budget for going out to eat twice a month. Monkey Brain likes it when other people serve him, so he convinces you to go out to eat once a week. He then tells you that you’re the type of person who only goes out to eat a couple of times a month because, he figures, if you wake up to the reality, you might realize it’s not in the budget and dial back.

If you’re forced to look at the actual numbers, though, there will be no denying whether or not you were within your budget.

Also, don’t think that underspending is any better. As we’ve previously seen, when there’s money left over, we tend to find other ways to spend it which don’t align with our priorities. We want to allocate extra money in spending and saving that matches what we view as important in the long run rather than what might seem important right now, such as making the man cave more appealing or buying Jimmy Choo shoes.

One way to measure our estimation skills and our spending habits is through using what is known as six sigma methodologies.

What is a sigma?

Sigma is a fancy measure for the average of how far away each point in a given data set is from the average of that set. It’s also known as standard deviation.

Let’s look at a quick example.

Let’s say that you had the following budgeting and spending:

Budget Actual Difference
$  5,793.00 $  4,693.35 -19.0%
$  4,034.00 $  5,561.52 37.9%
$  5,451.00 $  5,321.17 -2.4%

The average of the differences is 5.5%, and the standard deviation is 23.9%.

With a large enough set of observations, you can expect 68% of the observations to fall +/-23.9% (one standard deviation) of the average, 95% of the observations to fall +/-47.7% (two standard deviations), and 99.7% of the observations to fall +/-71.6% (three standard deviations).

The term six sigma comes from that last percentage: 99.7%. 99.7% of the time, a point should fall either 3 standard deviations above the average or 3 standard deviations below the average, totaling six standard deviations, or six sigma.

How to use this math in budgeting

I’ve created a spreadsheet called “Control Chart Worksheet.xlsx” that can help you measure how accurate your budget estimations are compared to how much you spend.

Below is a screenshot of a sample worksheet with data filled in. I’ll explain each section afterwards.

In the upper left hand corner, you type in the month and the year of the first monthly budget that you’re tracking. Once you fill in those yellow cells, the remainder of the months and years will automatically populate.

Then, you will enter in the amount that you budgeted and the amount that you spent for each month that you are tracking.

You’ll see the column labeled Difference; it multicolored in the screenshot above. I’ll explain the colors momentarily.

On the right hand side, in the upper right cell, there is a dropdown box. You can choose between Sigma – the automatic calculation – or Provide Limits. If you have relatively few budget inputs – less than 24 – you should use the Provide Limits option. If you provide limits, you will need to set goals for how much your budget can be off, for example, doesn’t exceed the budget by 5% and doesn’t undershoot the budget by 7% (in which case, you’d enter in -7% in cell R4). If you use sigma, you can define how tightly the sigma is calculated: the lower the number, the tighter the limits. Over time, you should be able to increase the sigma, as your estimating skill and spending habits should improve, reducing the differences.

Once you have entered in the measurement boundaries, you’ll see the colors in the Difference column changing. A light tan box indicates that you were under the budget and had money left over at the end of the month. A pink/purple box indicates that you were over the budget and had to spend more than you planned. A plain box indicates that you were within your budget parameters.

If you want to visually depict how you’re doing over time, you can click on the Control Chart tab to see a graph.

What to do if you exceed the boundaries with your spending

The first goal is not to beat yourself up. That doesn’t achieve anything. It won’t change your behavior, and a month later, you’ll be doing the same thing.

Instead, you want to answer four questions:

  1. What happened?
  2. Why did it happen?
  3. What do you do to prevent it from happening again?
  4. How do we know we made a difference?

That’s going to take some digging on your part. Go back through receipts. Look closely at your bills. Look at your calendar. See what happened. Was it a budgeting error – you forgot to account for something – or was it a behavior error – you knew the money wasn’t in the budget but you spend it anyway?

Once you’ve identified what’s happened, you can then take steps to make sure it doesn’t happen again.

Mistakes happen. Making the same mistake multiple times, though, is a problem.

If you’re successful with your budgeting analysis, over time the sigma control guidelines should get tighter and tighter, and you should see more and more clean cells in the Difference column.

This is just a tool to get yourself to look in the mirror and be honest when it comes to your budgeting and your spending. Use it and build the habits that will serve you well for a lifetime.

Related articles:

Don’t Wait Until the End of the Month to Save
Spend Your Bonus Before You Receive It
Saving Versus Spending: Why Are We Lying to Ourselves?
Get a Massage Before Doing Your Budget


The next article in this series is A Contract on Your Life.

Author Profile

John Davis
John Davis is a nationally recognized expert on credit reporting, credit scoring, and identity theft. He has written four books about his expertise in the field and has been featured extensively in numerous media outlets such as The Wall Street Journal, The Washington Post, CNN, CBS News, CNBC, Fox Business, and many more. With over 20 years of experience helping consumers understand their credit and identity protection rights, John is passionate about empowering people to take control of their finances. He works with financial institutions to develop consumer-friendly policies that promote financial literacy and responsible borrowing habits.

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