Mastering Personal Finances

Eat too much and you risk a heart attack. Your money works the same way. Spend more than you bring in, month after month, and you set yourself up for a financial attack: foreclosure, bankruptcy, debt you can no longer steer, and a credit report that follows you around for years. What your finances need is a diet, and the diet is a personal budget.

A budget does two things. It tells you exactly what your income is, and it tells you where that money actually goes. Both answers require you to be honest with yourself. For a lot of people, building a budget is the first time they really sit down and stare at their own spending, and the first numbers can sting. You might discover you drop close to $150 a month on coffee. Then you feel better when you notice that the month you brewed at home, you kept $135 of it.

The point of all this is to push savings up and expenses down. Trim the spending you don't need, grow the amount you set aside, and suddenly there's money free for the goals that actually matter to you: paying off loans, knocking down credit card balances, building a college fund for a child, putting money into a 401(k) or another retirement account, or saving toward something big like a house, a boat, a car, or a vacation.

How much should you save each month? As much as you can stand to. Even $20 is a real start. As your income climbs and your expenses shrink, you get to watch the number grow.

None of it works without commitment, which may be the single most important part. A budget is a household project, not a solo one. If mom is buying the store-brand groceries while her teenage daughter puts a $200 purse on the credit card, the whole thing collapses. Everyone has to be pulling in the same direction.

First step: write down every dollar coming in and going out. Plenty of people prefer financial software to a pencil and a legal pad, and either way you begin by adding up your monthly earnings. Count only the fixed stuff: paychecks, royalties, alimony, legal settlements. Leave out anything uncertain, like a bonus or a raise you're hoping for. Income is the easy half. Spending is where it gets hard.

Programs like Microsoft Money or Quicken help here because they can pull your recent transactions straight from your online banking and build a picture of where your money went. Once you have every deposit, transfer, and outgoing check in one place, you can start sorting it. A few clicks and you've logged a paycheck, moved $500 to the car payment, and deposited a $2,500 check.

People who study personal finance suggest that, beyond narrow categories like groceries or rent, you file everything under two big headings. Discretionary spending covers anything that shifts from month to month. Some of it you can't avoid, like food and clothes. Some of it you can: travel, hobbies, gifts, entertainment, eating out. Fixed expenses are the ones that hold steady every month, such as daycare, insurance, the mortgage, loans, utilities, and tuition.

Software is useful, but a small notebook in your pocket helps too. It's especially handy if you pull cash from the ATM often or pay cash for lunch, a toll, or a newspaper. Write EVERYTHING down.

Second step: look at the numbers and shape a better budget. Set your monthly income next to your monthly spending. Earn more than you spend and you're fine. Spend more than you earn and you've got some hard choices ahead. Aim for saving ten percent of what you earn each month, which for most people means cutting somewhere. Finance software will flag where you're overspending. With just a notebook, scan your repeat purchases and ask which ones you can live without. Common offenders: coffee, tobacco, restaurant meals, alcohol, magazines, taxis. This might be the moment you finally quit smoking and learn to cook.

Third step: set spending goals and hold yourself to them. Once you spot the cuts, subtract those amounts from your current totals. Then turn to the discretionary side. Maybe you're overdoing it on organic produce or new clothes. Estimate what you'd keep by buying clothes only on sale or shopping the local farmer's market, and build those estimates into a new plan. Go through your expense list line by line and the places to pull back usually jump out. Write your lower estimates into each category and treat them as your monthly targets.

And that's it. You have a personal budget. - Erin