The First Step in taking charge of your Finances
There’s no step like the first step and setting a household budget is no exception. While everyone agrees the benefits of daily exercise and walking—how many of us manage to follow it regularly? A personal budget is perhaps the most important first step and one of the most crucial aspects of financial planning, but it is a lot like regular exercise. Everyone knows it is important, but very few people do it properly. Or do it at all. Check for yourself, where you stand by taking the self evaluation test (See: Mind your Money on page 36) and come back to reading further.
To understand the importance and impact of the budget, we spoke to several experts who day-in and day-out meet up with people who seek their guidance in getting their finances in order. Says Yogin Sabnis, head financial planner, VSK Financial Consultancy Services: “A budget is the basis of one’s entire financial life. Without a budget you will have no idea how much you are spending and how much you are saving. So you cannot have a savings plan, cannot have investments and cannot meet any of life’s goals.
Yet, it is common for financial planners and advisers to come across people who are unable to fill their expenses under fairly well-defined heads like grocery, travel, clothes, and so on. And, then there are few who know the heads but have no clue how much they spend under each head. This can be problematic. Says Suresh Sadagopan, Founder of Ladder7 Financial Advisories: “Suppose a person has an income of Rs. 1 lakh and his expenses come to Rs 80,000 every month. Without a budget, he will not know that he has the potential to save Rs.20,000 each month.” However, basic it maysound, this is a reality that we can’t shy away from.
Ill-informed
Not knowing where the money goes is the single biggest cause for poor financial decisions. For instance, one will have money lying around in their bank account and not invest it, or use it optimally to reduce their tax outgo. Alternatively, if the person knows he saves Rs.20,000 each month, he could deploy it meaningfully by investing. The classic definition of savings is income minus expenses. However, that is not the most ideal way to save money; you should instead follow the income minus savings approach to spend the surplus after you have saved.
We spoke to Mumbai-based Dr Mahesh Pramod Patil (36) and his wife Madhupa Patil (34) who are in the habit of preparing a monthly budget by making a note of their various sources of income and expenses under different heads.under different heads. They calculate their income from all sources and their expenses and analyse their expenses to see how much money is going where. The couple also revisits the budget over intervals and tries to stick to the budget they have created.
“Budgeting helps us to get the most out of our money. It also reduces our stress levels as we have a sense of control over the money coming in and money going out,” says Patil.
In another corner, Kolkata-based IT professional Tuhin Shubhra Chattopadhyay, 32, divides his expenses into fixed, savings and ad-hoc expenses, which helps him ensure that he meets all his expenses comfortably while contibuting a fixed amount to savings every month.
His fixed expenses include insurance premiums and the EMIs he is paying for a home loan. Having an idea of this helps Chattopadhyay shift the savings component of his income to a savings account as soon as his salary comes in. Chattopadhyay uses a credit card for most of his regular expenses like paying utility bills, phone bills, internet and groceries, which helps him keep a track of most of the major expenses heads.
“Having a budget makes it easier for me because I already have an idea of my expenses at the beginning of a month. So when I know that for one month I will have some extra expenses, like gifting something during a wedding or a short trip we have planned, I know I need to factor it in.” His wife, Chayanika, 32, also works in the IT sector and the couple ensures that they keep their expenses in control so that they can save for their future and that of their 2-year-old daughter, Arjaa.
Jump Start
If you have seen films from the 1960s and even the 1970s, it would typically revolve around the leading hero setting aside money to treat his ailing mother, get his sister married and younger brother educated. By listing these financial goals, he would meticulously go about saving towards each one of them, of course with the usual twists and turns typical of movies. Even today, in several small towns, the matriarch commands the finances on a tight budget, with money being set aside for household repairs, weddings in the family, emergencies and more.
However, with increase in incomes and setting up of nuclear families, the concept of budget has taken a backseat. Having a budget is a routine, mostly a boring one that many of us do not end up doing. But that does not mean that one should not have a budget. Sabnis suggests that to get started one can go back to the bank passbook and find out how much money one has withdrawn over the past 12 months. All expenses, including credit card bills, will be reflected in this and will give one an idea of one’s total expenses over the 12-month period. Keeping aside a few one-off expenses, one can divide this figure by 12 and arrive how much one has spent per month on an average. This is the first step. Having arrived at a figure of average monthly expenses, one can then start analysing. Is it too high a figure? If yes, where is the money going? How much are you spending for that? Are there some ways in which you can reduce some of these expenses?
Amit Suri, CEO and chief financial planner, AUM Wealth Management, says that a budget is a family affair and the first step is for a couple to sit down and make an idea of their family expenses and list down what part of the money is going where. While one can use an excel sheet to keep track of expenses, one can also use online budgeting software or budgeting apps, all of which have tools to make tracking expenses easier. To get a better grip of your finances, you could also explore how your finances stand by checking 'Your personal finance barometer' on page 30.
Goals and budgets
Without a proper budget, meeting one’s future goals becomes difficult. What works with most people, says Sadagopan, is to start thinking in terms of one’s future goals. Ask yourself what your goals are and how you are planning to meet them. “Most people know their goals, whether it is buying a house, their children’s education and so on, but when asked about it theyare either not sure of how they will meet these goals, or say they will have some plan in place soon, but are never sure whether what they are saving is good enough or not,” he says.
Once people have a clearer idea of their goals and know how much of money they would need to invest every month to achieve those, they start thinking about how they can actually have a control on their spending or save more money. “By analysing one’s expenses, many people find that they can actually put in another few thousand rupees more into investments. Once people start thinking in this manner, they cannot ignore the importance of a budget any longer,” he adds.
Kiran Telang, Director, Dhanayush Capital Advisors, suggests that one should break down one’s expenses into three buckets. The first bucket is of fixed expenses which would include expenses one cannot do without. This would include rent, EMI, insurance premiums and school fees. The other bucket is the amount of money one needs to save to meet one’s financial goals whether they are immediate ones or ones in the future like kids’ education, retirement and so on.
Once money is allocated for these two buckets comes the third bucket of variable expenses. These are expenses which, as the name suggests, are not fixed and are discretionary. These would include eating out, watching movies, spending on an item of luxury and other similar expenses. These are expenses which you can do without if the need arises. Says Patil, “Maintaining a budget helps us get a bigger picture of our spending habits and helps shift our mindset to focus on long-term goals and future needs.”
Lessons learnt
If after analysing your spending you think it is too high or you are not having enough surplus left to invest and meet your goals, there are three things that can be done. You can either increase your income, which might not be possible immediately. The next thing to do is cut down on expenses, which can only happen by reducing or doing away with the discretionary part of expenses or the nonessential expenses. “Bracketing discretionary expenses under a different head means they can either be cut down or done away with if we need to put more money into savings or have some other expenses in a certain month,” says Chattopadhyay.
But even if after cutting down on expenses you still do not have enough surpluses to meet your goals, you need to either postpone or modify some of the goals or do away with them altogether. For example, you may have to go for a vacation abroad once in every four years instead of once in every two years or reduce the budget for your new car or push it back by a few years. However, just like fixed expenses, certain goals like kid’s education and retirement cannot be postponed. Having a budget is important for all, whether you are salaried or in business. Having a budget in place and sticking to it means you are on top of your finances and things can only get better from there.