How to Create a Budget: A Step-By-Step Guide

No matter your income or situation, a budget can help set you up for financial success. Contrary to popular belief, it doesn’t have to be painful. Here are the keys to creating a budget to empower you to reach your financial goals without feeling deprived.

What is a budget?

A budget is a plan for managing money. It provides a framework for your earning and spending behaviors. 

A budget is a plan that allows you to:

• See how much money comes in
• Account for where your money is spent
• Understand other aspects of personal finance, such as insurance, credit, saving, and investing
• Set goals for earning, spending, and saving
• Adjust your spending and earnings to meet these goals

Budgets are often thought of as painful, restrictive limits on your spending. However, budgeting experts say they are much more than that. 

Why is budgeting important?

“Budgeting is important because it's a great way to increase your financial awareness,” says Jennifer Yip, founder of the personal budgeting app Lunch Money. 

“Being aware of your spending is the first and most important step to controlling it and reaching your goals,” she says.

Budgeting sets up a fundamental accounting of your money. This accounting provides the foundation for helping you reach your goals. 

Benefits of having a budget

Budgeting sets you up for financial success. Some of the benefits of having a budget include:

• Building wealth: Budgeting is the first step to wealth. According to a small survey conducted by WalletHub, 60% of high earners have a budget, while only 20% of low-income earners use a budget. 
• Help you through an emergency: Budgeting helps you put away money for an emergency.
• Create retirement: Saving for retirement is crucial, and a budget can help you allocate funds toward retirement.
• Save more: Budgeting and allocating money for savings ensures you’ll put money away for things that matter to you. 
• Reduces stress: People who budget feel more confident, in control, and secure with their money. 

Common misconceptions about budgeting

Experts say budgeting doesn’t have to feel so restrictive. 

“Give yourself permission to change your spending plan when life changes — it’s your money!” says personal finance educator Ashley Lapato of You Need a Budget (YNAB). “Having a plan for your money provides reassurance that your needs, dreams, and goals are covered, but it shouldn’t be so rigid that you can’t order takeout after a bad day.” 

“When your money is aligned with what matters most, that’s called spendfulness, and sometimes that comes in the form of a little treat,” she says.

Steps to create a budget

To set yourself up for success, try the following steps. 

Set your financial goals

Your “why” is the most important part of creating a budget. If you have a strong reason for creating a budget, you’ll be more likely to see success. 

Examples of financial goals include: becoming financially free, saving for a down payment on a house, saving for a vacation, setting aside money for retirement, investing, saving for a child’s education, and more. 

Calculate your monthly income

Start by adding together all the money that flows in during the month. This could include wages, side hustle income, rental income, investment returns, child support, alimony, social security, and other monthly income.

Track your expenses

Start tracking your monthly expenses for the last month or two to get a more precise figure on where your money is going. You can use an app, a spreadsheet, a Debt Tracker, or another method for tracking how much money you’re spending. 

Import your bank and credit card statements to the app or spreadsheet. Use categories to group expenses together.

Divide expenses into fixed and flexible categories

Identify what expenses are essential and which ones take up your disposable income.

Allocate funds accordingly

Once you see where your money is going, you’ll want to make goals for how you want it spent in the future. Do you think spending on household goods or eating out is too high? Can you save money with cheaper housing or transportation? 

You may also want to try using multiple bank accounts to keep your money separate for the different purposes you have for it. 

Monitor and adjust your budget regularly

After you’ve monitored your income and expenses, set goals for your future. What do you want to get out of budgeting? What adjustments can you make to help you get there?

You might also look at whether or not your numbers are realistic. Though a budget may be aspirational, it should also allow for a few creature comforts in life. 

Popular budgeting methods

Finding a budgeting method that works for you can help you stick with it. Here are some of the most popular budgeting methods. 

50/30/20 rule

The 50/30/20 rule designates a portion of your budget based on needs, wants, and savings. Your expenses should fit within this structure:

• 50% to needs: Needs include expenses like your mortgage, utilities, and groceries.
• 30% to wants: Examples include restaurant spending, hobbies, and vacations.
• 20% to savings or investments: Retirement accounts, an emergency fund, or savings for a down payment on a house fit here. 

Budgeting in this manner allows for a spread among your needs, wants, and savings, which can help you meet your financial goals. 

Zero-based budgeting

With the zero-based budgeting method, every dollar you earn has a specific purpose. You account for every expense and savings deposit, and there is $0 left at the end of the month. 

To make a zero-based budget work, subtract your expenses and saving goals from your income. Find out if there’s any remaining income and repurpose that money to another category. If you have a negative number, rework your budget to find places to cut or reduce your savings goal to get to zero. 

Envelope system

With the envelope method, you decide on a goal for how much money you want to spend in a category and put that amount into an envelope. Once the money is gone, you cannot spend in that category until you have another disbursement (e.g., the next month or your next paycheck).

It makes sense to use this system for variable expenses, such as groceries or household goods. You can use actual cash and envelopes to see exactly how much money you have left, but you can also use a digital version to track your money. 

Tips for sticking to your budget

A budget isn’t effective if it’s too hard to stick to. Follow these budgeting tips to make it work for you. 

Use budgeting tools and apps

Budgeting tools and apps can help get you excited about budgeting. Many can import bank and credit card transactions, categorize expenses, help you set goals, remind you about approaching bill due dates, track your credit score, help you with financial planning, and more. 

Despite the prevalence of technology, many people with a budget also use a good, old-fashioned spreadsheet. 

Automate savings and bill payments

Autopay will make your life much easier – and help you stick to your budget. You won’t miss a bill due date, and your savings will increase with every automatic deposit.

Review and adjust your budget periodically

Lapato suggests regularly reviewing your budget and making adjustments as needed. This way, you’ll keep your financial goals front and center while sticking to your budget.

“Life happens!” she says. “If you overspend in one category or your priorities change, adjust your budget by moving funds from another category.”

Being flexible and regularly reviewing your budget can help you find a budget that works for you. It also will help you spend according to your values. 

“A budget isn’t about restricting yourself; it’s about aligning your money with what truly matters to you,” she says. “A flexible budget that includes categories that are important to you is a budget you can stick to.”