One of the most important tools to achieve financial freedom and early retirement is to have a great budget – and to stick to it. In the following, I will show you how to make a good budget.
Your budget should consist of two overall categories:
- Your income
- Your expenses
Your income should always be your take-home income (i.e. after taxes – the money that you have available on your account).
Your expenses should include all of the money that you spend in a given month. The expenses obviously makes up the most of your budget as most people have few revenue streams, but have many different expenses. I believe in three categories of expenses your budget should have:
- Recurring, need to have expenses (e.g. housing, food, insurance etc.)
- Recurring, nice to have expenses (e.g. TV subscriptions, cleaning, gifts etc.)
- Unforeseen, one-off expenses (e.g. repair/replacement of electronics, lawyers etc.)
The distinction between need to have and nice to have expenses is quite important, since one of them can be easily cut out of your budget and increase your savings rate, while the other can never be compromised to ensure your health and a decent living standard. I believe that you should always build a buffer in your budget for unpredictable, one-off expenses, because they will for sure happen.
Before we get to my actual budget, I would like to give you a few tips on how to best incorporate it in your daily life:
- Split everything into monthly expenses: I have all my expenses on a monthly basis. For example, I know that I will be giving certain birthday and Christmas gifts every year. Thus, I have an expense item called ‘gifts’, where I save 1/12 every month of what I expect to give of gifts every year.
- Set up an account for each group of expenses: Depending on how digital your bank is, I would suggest setting up an account for each group of expenses (e.g. ‘gifts’) to get an overview of how much money you have for certain things. Don’t do this if the bank charges you a fee per account you have.
- Use one master account: Set up one account for incoming salary, payment of bills and transfer to expense accounts mentioned in point 2
If you use cash and do not have a bank that offers good online/digital solutions, then I would suggest having different envelopes with the assigned cash instead.
Below you will find my budget will all of my relevant monthly expenses and a few graphs explaining how my budget has developed over time.
|INCOME AFTER TAX|
|Take-home pay from job||32,387||4,626|
|Need to have expenses||11,043||1,578|
|Rent and utilities||8,750||1,250|
|Internet and phone (company paid)||0||0|
|Nice to have expenses||8,878||1,268|
|Entertainment and clothes||3,000||428|
|Wedding savings (temporary)||3,000||285|
|Unforeseen, one-off expenses||1,000||142|
|Emergency expense savings||1,000||142|
As you will see, I have a savings rate of approximately 35% per month based on the budget. I do not consider this ambitious, as it would take me roughly 23 years to be able to comfortably retire. However, there’s a few important things to keep in mind here:
- In one year from now, the expenses related to wedding will disappear (-3,000 DKK per month)
- My yearly bonus is not counted, but would usually amount to 4,500 DKK extra per month on average (with potential to be significantly higher)
- My emergency savings of 1,000 DKK is passed on to ‘real savings’ if the emergency account is above 10,000 DKK
- In my profession, promotions happen relatively often and a yearly salary increase of at least 5,000 DKK in the coming years is realistic
- I am splurging on my ‘nice to have’ category (e.g. entertainment and clothes), and this I will have to learn how to cut down
- I might generate some income from this blog or offsprings along the way
- Kids might come along in the next few years, so that will be another cost driver
If I include points 1-3 from above in the budget, my savings rate would increase to 57% and the number of years to retirement would be 12.5 years instead. But as you will learn by following the blog, I plan to do this much quicker.
My savings rate over time
My savings rate is calculated by taking the fraction of my monthly savings over my monthly take-home income
Are you tracking your savings rate? If not, you should get started right away!