How to update your budget when circumstances change
In the post Is budgeting a necessary habit? we discussed how to set up a budget and how to review it to make sure your spending is in line with your values. Sometimes however, our circumstances change and we are forced to changed with them.
If you get a salary increase, lose your job, move house or your partner moves in with you, you need to check your budget to see how this will affect you. If you will have more money left over, like after a pay rise, that’s great! Now, don’t just use it to buy a car or increase your “fun” money but really think through what you want to do with this extra money. There is a ton of information out there around how to get a pay rise but there is very little information, guidance or data to help us understand what to do when we actually get one. US Senator Elizabeth Warren, former law school professor focusing on bankruptcy law, famously advocates that you save 20% of your income after tax, so if you get a pay rise you would increase your savings to get you back to 20%. My recommendation would be to save between 50% and 90% of your pay rise depending on your goals and circumstances in order to slowly, and without you noticing too much, increases your savings rate. It’s important to feel that you gained something from your pay rise, and to keep up with inflation for your “fun” money (more on inflation coming in another post), but as we will see when we start talking about buying a house, pensions and investments, you will really benefit from not letting your ongoing spending run away with you - also known as lifestyle creep. And trust me, I know. Just look at my example where I got a pay rise last year. I did dedicate 50% of that pay rise to saving and investing but by giving myself a general permission to do some shopping, I very quickly was looking at spending patterns that, in the long run, would have done significant harm to my personal finances.
Now, were you should be on the 50-90% scale is up to you, but I would recommend that if you are really struggling and finding it difficult to buy essentials, only save 50% of the pay rise. If, on the other hand, you already have a bit of money to spend, then save 90%. You will still get a little boost in your fun account but most of the money will go to more worth wile goals.
Why should I save this much you wonder? We will talk a lot about this further posts on on saving, investing and pensions, but in essence it’s about having F-U money (more on this in the post banking on your habits). To make sure that as you go through life with the option to move if your landlord is being rubbish or to be able to quit your job if it’s really getting to you. It’s about setting you up for a life where you have choices. Choices about what you do, how you live, and what rubbish you put up with.
Unfortunately it’s not always a change in circumstances leads us to have more money to spend, just as often something happens that impacts our finances in a negative way with the probably the most impactful being if we lose our job or need to take a pay cut for some other reason or have a significant personal change in circumstances like getting a divorce or even have a kid! When this happens there are three things to focus on as you review your budget.
1. Fixed outgoings. Look at your budget or your list of direct debits in your bank. Can you change any of these? Depending on the scale of the cut-back this can be looking at any subscriptions you hold (do you really need that magazine or those extra tv channels?) or it may be looking at something bit more substantial like where you are living or how you get around. Is this the time to sell your car and get your daily movement from cycling around? Remember that a change of circumstances will require you to change your habits and routines so this is an excellent opportunity to look at the life you want to live, and see if you can adjust your spending to help you get there.
2. Look at your discretional spending. Remember that our regular spending is all about habits. Where do you get your food? Do you cook or do you take regular take-ways and home delivery? What do you and your friends do when you see each-other? Can you start taking a walk together instead of hitting the bar or the coffee shop? Personally I love taking a walk with a good friend, as it usually leads to really good conversation. We still may get a glass of wine or a tea later but either we get that in each-others home, or even if we do go out, the bill is a lot less than if we spent the whole time there! We also got some movement and possibly some memories in to help nourish the relationship as well. So take a look at the habits influencing your spending. This is not about austerity and feeling sorry for yourself for not getting a take-out, it’s an opportunity to make your life work together to a better you, to maximize what you’ve got and make your habits work for you instead of against you.
3. Look at your level of saving. As you will see throughout this blog I’m a big proponent for saving and investment so this should really be your last resort, but if you just lost your job and have done all the steps above and you really need the money to survive, then you can take a look at your savings rate. Be clear though that this is a short term measure until you get another job or otherwise get back on your feet, not an opportunity to permanently loos all that saving momentum you have built up!
I know there is a lot of information in this post and I won’t deny that there is some up-front work with understanding your finances, setting up a budget/plan and making sure you pay yourself first, but once that is done it really takes very little time keeping an eye on your bank statement every month, and if you keep healthy personal finances as one of your overall goals, you can also work this in when you review habits and routines in other parts of your life, making sure that your health routines don’t mean you have to spend more money than you have on a fancy golf membership or health club, but that you keep all your overarching goals in mind. – Just to make clear, I don’t mind people who play golf, I just want to make sure you keep your overall goals in mind as you actively choose how you live your life!