Budgeting

What is budgeting?

Many people think budgeting is about setting spending limits and then trying to stick to them.

In reality, good budgeting starts by understanding how much you already spend.

Once you know where your money is actually going, you can make informed decisions about what, if anything, you want to change.

Understand the three types of spending

Most people’s spending falls into three broad categories.

Fixed costs

These are regular expenses that tend to be similar each month, such as your mortgage or rent, council tax, utility bills, insurance, loan repayments and subscriptions.

For most people, these are mainly made up of direct debits, standing orders and other recurring payments. Once you’ve added them together, you’ll have a single figure representing your regular monthly commitments. This generally requires little attention unless your circumstances or bills change.

Normal spending

This includes your regular day-to-day purchases, such as groceries, eating out, shopping, entertainment, travel and hobbies.

Unlike fixed costs, these expenses vary from month to month and are therefore harder to estimate accurately. Building a clear picture of them usually takes a little more effort at first, but once you’ve established a routine, reviewing your spending each month is often surprisingly quick.

One-off spending

This includes larger purchases that don’t happen every month, such as holidays, Christmas, home improvements, replacing household appliances or buying furniture.

Tracking these separately from your normal spending helps you build a much more realistic picture of what a typical month actually costs.

Understand your normal spending

Rather than guessing how much you spend each month, track it.

When you first start, it can be helpful to look back over the last three or four months.

As you review those months, separate your normal spending from one-off spending. This allows you to build an average that better reflects your normal monthly spending rather than being distorted by occasional large purchases.

Over time, this average becomes one of the most useful numbers in your finances because it removes much of the guesswork from budgeting.

Two approaches work particularly well.

Digital banking apps automatically categorise your spending and present it in charts and visual summaries. They’re particularly useful if you want to understand every transaction and analyse your spending across a wide range of categories.

The Ben H Asks Personal Finance System builds on the principles in this article by combining budgeting, monthly spending reviews, saving and investing into a single framework. Rather than categorising every purchase, it focuses on understanding your fixed costs, your normal spending, your one-off spending and the monthly surplus available to save or invest. Although it takes a little longer to set up, the monthly review is designed to be quick and to build a clear picture of your finances over time.

Decide what should change

Once you understand your average normal spending, you have a much stronger foundation for making financial decisions.

Instead of wondering where your money goes each month, you know what a typical month looks like. That confidence makes it much easier to decide what, if anything, you want to change.

You may decide that your spending already reflects your priorities.

Or you may identify opportunities to free up money for saving, investing or other financial goals.

• Regular household bills, such as broadband, mobile contracts and insurance.
• Recurring payments you’ve forgotten about.
• Spending habits that no longer reflect your priorities.
• Whether some one-off spending could be planned for in advance by gradually building up money in dedicated savings pots.

The goal isn’t to spend as little as possible. It’s to make sure your money is being spent on the things that matter most to you.

Key takeaway

Good budgeting isn’t about setting arbitrary spending limits and hoping you stick to them.

It’s about building financial awareness by understanding three types of spending: fixed costs, normal spending and one-off spending.

First you measure your spending. Then you understand it. That understanding gives you confidence in the decisions you make and helps you improve your finances over time.