Budget 101

    Towards the end of the year, my thoughts often drift to budgeting. Not that I don’t think of it through the year, but we have to start to plan out our year for 2015. I also often help some of our staff to plan their own household budgets (not professionally, of course, just as friendly advice), and also help some business colleagues with their own budget ideas and plans.

    Most of the time, if people have money issues, it almost always is the case that they don’t have a solid budget that they work with through the year to plan their financial roadmap and measure their progress against it through the year.

    While everyone’s exact financial situation is different, and each person will have a different personality and plan that works best for them, and while there are multiple paths to success, here are a few of the core mandates that I personally follow, and I think every solid plan should include.

    1. Cash is King
    And by cash, I really mean profits. Essentially, everyone from professional athletes making millions of dollars to the busboy working at Applebees can go broke. So revenues don’t matter too much. The simple reason they go broke is that they spend more than they make. While it sounds obvious, it’s actually quite a profound concept. In order to gain wealth, you have to live within your means. The professional athlete who buys 20 cars or more jewelry than he can wear is just like the homeless guy who buys an ipad. Just on a larger scale. At the end of the day, they both end up with 0 in the bank account. And broke is broke, no matter how much income one makes. In business, this is even more pronounced. I often tell people, “would you rather work 30 hours a week to make $100, or 80 hours a week to lose $1? That’s what happens when you spend more than you make.

    2. You can’t maximize profit unless you minimize costs

    This is one of the cardinal rules of economics. This focuses your effort on managing and controlling the cost side of your day-to-day living. If you are able to create a business or personal model that minimizes costs at a certain level of revenue, you now have a valuable model that will only grow the profit you make as you grow your income. The idea I often try to instill in people is this: You can make a profit at almost ANY level of revenue, so long as you minimize those costs. And if you can do that consistently, all you need to do is keep doing that while growing revenue.

    3. Develop a habit of saving
    Following the first two rules will help you acquire money/profit. But then you have to begin retaining that money. I believe that saving money is a habit that we must learn. I don’t know anyone who was born with the desire to save money. Human beings love to spend, because spending equals acquiring, and we all want to acquire more. That’s just human nature. But while spending money can give you the appearance of living large, it will not usually help you to build wealth. I often encourage people who have 0 in their savings (who are living paycheck to paycheck), or businesses who are very illiquid (little or no cash on a month-to-month basis), to begin squirreling away just a bit each month. So for an individual, that may mean just $20 a paycheck into a savings account that they cannot easily access. Or for a business that may mean putting $1,000 a year into a dedicated, non-operational account. But savings has to become a habit, something you do every week, month, year… without fail. And using an account that you cannot access easily.

    4. Pay down debt

    According to USA Today, the average debt load in America today is $53,850. That is pretty deep under water. And is it any wonder why people in debt say that they are “drowning”? If you’ve ever felt what it’s like to begin drowning, you know it’s not fun. It feels like you’re helpless. You begin to get frantic. It consumes your entire mind, and you think of nothing else but how you can get out of the situation. Hopelessness sets in. It can take your life. I often tell people that once you begin to develop a habit of savings, you need to start also looking at paying down debt. DO NOT stop saving so you can pay down debt, it has to be an additional amount from your earnings that you can commit to paying debt. Paying down debt does not have to be done habitually like saving money. It can be done in lump-sums when you come into a larger windfall (for an individual, that could mean a birthday gift or inheritance, for a business that could be a large unexpected job or a one-time major cost savings). But you have to prioritize paying the debt over spending for the future (like buying that car you always wanted or upgrading your computer systems).

    I personally recommend organizing your debt by how big the balance is, and then pay down the smallest debt first. Even if the interest is higher in one debt (for example, a credit card debt vs. a bank loan), the mental victory of paying off a debt completely, in my opinion, is more beneficial than the interest savings. Your mind will celebrate because you conquered a challenge, and you will be hungry to knock off the next one. You will also feel able to do it, because you already did one, even if it was a small one. It will be easier to conquer the second, then the third, and so on.

    I also recommend consolidating your debt, if possible, to take advantage of the lowest interest rates. Do you have a card charging you 15.99% interest? Try to get a credit union cash loan to convert the balance to, maybe reducing your interest rate to 5.99%, or sometimes even 0% for a short time! Sometimes even just calling your credit card company and simply asking them to reduce your interest rate can cut it by a few percentage points. It can’t hurt to ask!

    5. Take on no current debt (aka pay with cash)

    Finally, I’m a big believer in not taking on debt from this point on, with one caveat. I strongly suggest to people to buy anything from this point onward with CASH (once they’ve maximized profits, once they’ve developed a habit of savings, once they’ve paid down all their debt). Now, I don’t mean actual cash. I personally use credit cards for LOTS of things. But what I mean is that you only buy stuff that you COULD pay for in cash, if you really wanted to. That you have enough cash in the bank or pocket or wherever to pay for it immediately. The only thing that I use credit cards for is to rack up points or miles. Then the card gets paid off in full, on time. Buy cars from craigslist instead of from a dealership, and only pay in cash what you can afford. That way you don’t have to carry that debt load for months and months.

    The only debt I would recommend taking on is a mortgage, if you buy a house (for a personal budget, of course, not a business budget). The tax benefits from your mortgage interest make it well-worth it, assuming you can afford the mortgage payments on the house you are buying.

    So that’s my general rules for budgeting! I know, some of them are easier said than done, but stick with it, have a long-term vision, and I know you won’t become another statistic ($53,850… yikes!)