IS THERE A CATEGORICAL IMPERATIVE FOR BUDGETS?
In response to my last column, a concerned reader told me that “college textbooks” shouldn’t be included under the “miscellaneous” category. While I technically hedged my bets by saying “often includes,” this is a great example of how you can determine the categories for your own expenses.
College students will be well served by having an “Education” category in their budget, and they can plan ahead for the expenses of books by saving a little each month toward future book buying binges. If you’re expecting to spend $200 on books in January, then (starting now) put $40 per month aside in a savings account. When the January book troll arrives, demanding its $200 toll, you’ll have it ready.
As noted in my previous column, one way of slicing up your budget is by spending 50% on Needs, 20% into Savings, and 30% on Wants. For the first time budgeteer, I suggest trying some more specific categories first. There are numerous financial gurus who provide categorical percentage suggestions, typically looking something like this: Housing—33%; Food—15%; Transportation—15%; Health—10%; Savings—10%; Entertainment—7%; and Miscellaneous—10%.
Those percentages can vary wildly at different times and situations. For example, an 18 year old college student raised in Chico might live with his parents and have health insurance coverage through them (thanks, Obama). In this situation, his Housing and Health categories are a combined 0% instead of the suggested 43%. Remember your algebra—because he’s not paying for those things, his spending on other categories will take up a higher percentage of his total spending, skewing those percentages in turn. With few big expenses, let’s estimate that he spends a total of $500 monthly, with $200 of on food, making his Food category 40% of his total spending. If I spend the same amount on food, but my total expenses are $2000 per month, then Food is only 10% of my budget, despite the fact we’re spending the same amount. This confusing situation is the major limitation of a percentage based budget.
Am I doing better than him because food is taking up a smaller part of my budget? Not at all, but that’s the wrong question to ask. A better one is “Am I making sure each category’s spending is economical and efficient?”
Real life example: I had a friend who created her first budget at 28. She tracked her spending and saw she spent 60% of her income on rent (because she valued living alone in a house). She decided she valued paying off her debts more, and so moved in with her sister for a year. This cut her Housing category to 25%, and she put the other 35% toward debts. She paid off her debts in six months, and then started putting that 35% into saving for a down payment on a house. That’s the power of examining the percentages. This week’s task is to figure out your current spending percentages and see how they line up.