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Your Financial Makeover, Step #2: Budgeting and Saving

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Ok, let’s do this. This is part 2 of the 2006 financial makeover (see step 1), where you take control of your money. By the time we’re done, you’ll have 2 things:

1. An infrastructure of budgeting and saving. This will let you make conscious decisions about your money, rather than opening your statements at the end of the month and shrugging, “Well, I guess I did spend that much.”
2. Better personal-finance knowledge than 99% of your peers, whom you can disparagingly scoff at as you sit in your golden throne. I do this daily.

Now, judging from the emails and comments I got last week, lots of people had a great time debating the ~0.5% differences among ING vs. HSBC vs. Emigrant Direct savings account. Fun, huh!!! However, fewer people–like, fewer than 5–wrote to ask specific budgeting questions.

Like I said before, this is a personal-finance ass-kicking, not a Willy Wonka lovefest. We are going back to basics. For those of you who did everything last week, don’t worry: I have new things for you to do today. For the 82395923 people who want to know where they should invest, be patient. It would be irresponsible for me to start talking about investing without providing a foundation to support it.

Complete your budget
In step 1 of this makeover, I wrote about making a budget to track your last 4-6 weeks of income/spending. There are 2 ways to do a budget: Top-down (where you write down what you should spend) and bottom-up (where you write down what you did spend). A top-down budget is better: It’s predictive and lets you set goals to achieve. But to get there, you have to start with a bottom-up budget and notice exactly what you’re spending money on.

So let’s get on with it.

Thanks to everyone who sent me sample Excel spreadsheets last week. Here are the best 2: Budget spreadsheet 1& Budget spreadsheet 2. (Thanks to Wayne and Kiran; FYI the 1st spreadsheet is from the MS Office template page).

You’ll notice that I’m not doing a sample budget or pre-filling in values. That’s intentional. Budgets are (1) hard and (2) individual for each situation. And once someone spends the time making one, they’re much more committed to actually using it.

Now, here’s what I want:

1. Make a budget. If you didn’t do this last week, do it now. Remember, don’t be limited by the categories. Add/remove as necessary.
2. Factor in irregular events. Budget in spending for Christmas gifts, friends’/family members’ birthdays, vacation (airfare, hotel, spending, etc), vehicle registration, etc.

Two notes here: First, these irregular events represent a lot of money. Spend some time and write down accurate numbers, because you’re going to use this budget as a guide for all future spending. Second, if you can’t put an exact number down, be generous with your estimates. If you budget $10 for your parents’ 25th-anniversary gift, then you are a moron and your budget is not going to work. Better to overestimate than to underestimate.

Start thinking about how much to save
In the last quarter of 2005, for every dollar earned, Americans saved exactly zero. Even more astonishingly, they spent more than they made. (For context, China’s savings rate is about 40%.)

Don’t be that guy. Most personal-finance books recommend saving 10% of your income as a minimum. I agree–that is a bare minimum. Barring any extraordinary circumstances, if you’re single and have an income, I urge you to save 20-30% at a minimum.

Here’s why you should save more right now: At our age, each dollar we put away now is worth much more than a dollar we save at age 35. Yes, we could buy some new jeans right now, but by saving more right now, we’re actually giving ourselves more money later–much more.

Second, it never gets easier than right now. You’re single and earning, say, $50,000. You don’t have any kids or a mortgage. All you have to spend on is yourself. Just think about this for a second. Try to imagine yourself 10 years from now: How much is that annual vacation you have to go on? How much are diapers for your kids every week? What about toys? Or car insurance for your 16-year old son?

It might seem like I hate kids, but I don’t. Let’s keep it real: They’re expensive, and so are the multiple cars you’ll have, the home insurance, and everything else. That’s why starting now gives you a huge cushion to maintain your lifestyle when your costs rise.

It never gets easier than right now. What % of your income should you save? I can’t give you a number, but I can tell you this: Figure out what you can comfortably save, then save much more than that.

Here’s a nice picture to see what I’m talking about (source:

All my money is in one place. Now what?
Ok, here’s the deal. You need to do 2 things:

1. Create a system to manage all future income/spending
2. Figure out how to allocate your money

First, let’s do the system. Read how I set up my financial accounts. You’ll notice that I use my checking account like my email inbox: Everything goes there first, then I disburse it to the right place.

Another way is to tell your employer to automatically deduct a certain amount of money from each paycheck and send it to a certain account. (Ask your HR department.) For example, you might withdraw $300 from each paycheck, send it to ING, and have ING automatically send $500/month to your ETrade account. Automatic deduction is another great way to consistently save.

Second, you’ll want to distinguish between money you want to invest (long term) and money you want to save for a short- to mid-term horizon; your savings would be used for things like buying a car, going on vacation, buying a house, etc.

A final thought: Here is one of the best simulations for why starting to save earlier pays off unbelievably well.

Next week: Your system is in place and we start on investing. We’ll go over different asset classes (stocks, bonds, etc) and you’ll open an investment account.

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  1. I recently signed up to do my budgeting and expense tracking through It is Christian based; however, during my research I found it to be one of the best. Hope this helps. Thanks Ramit – you’re giving helpful information.

  2. Ramit – You are incredibly smart. I wish I had a wife who was as smart as you and did this for me 😉

    Thanks for this great series on personal finance.

  3. This is very good. The idea of saving 10% is excellent.

    However the problem is what to do with the money. As an US person you have a lot of opportunities to invest.

    However, I live in Romania. Here mutual funds are just a way for charismatic people to raise a lot of money, pretend that they invest and then to run away with the money. This happened with a fund called FNI. So.. investing in a fund is a high risk investment.

  4. Believe Ramit when he talks about kids. I spend about $70K per year on my two kids, ranging from $35K for day care to an extra $15K for having to rent a bigger place, to God knows how much for toys, birthdays, and everything else.

    Save now!


    Best website ever for keeping track of a ton of various financial accounts…why everone in the world doesnt use it, i will never know.

  6. You mention there are three essential topics for budgeting: regular events, irregular events and savings. Since regular events are pretty well defined and you get to pick savings, can’t you designate what is left as irregular events? That way, instead of saying, “Well, I guess I would be happy having $30 to spend on clothes each month.” you could say “I have $300 to spend this month if I want to, should I buy clothes with it or short term savings for a new HDTV.”

  7. Chris Yeh: That’s $336 per child, per week. That is way above the market average for day care. I only pay $110 per week for my daughter. I do agree, though, that the little tikes a expensive.

  8. Really can’t thank you enough for this series Ramit ^^.

    Just wanted to point out that towards the end of the post the ‘how I setup my financial accounts’ is a dead link.

  9. Before opening an account, talk to the financial institution in question and ask if they support automatic direct downloads to MS Money or Quicken. ING does not support this which means that instead of just opening Money or Quicken you have to do to the ING website and download your data.

    I’m not a big fan of Microsoft Money, but I am boycotting Quicken and all Intuit products for life. Search google for “Intuit is evil” and you’ll find that Intuit unfarily squeezes both customers and financial institutions for “upgrades”. Details about this are here:

    Thanks for great advice and a great blog Ramit!

  10. Derek: Thanks, it’s fixed!