Monthly budgets won't change your life, and why I don't have one

For a long time, I thought one of the most obvious financial health tools was to have a budget. I even told my friends they should have a budget. And then one day I realized... "I don't have a budget". My immediate thought was to make a budget, because we all know you need one, rather than stopping and asking myself "but do I need one?". In this blog I lay out why I don't have one and what I use in its place.

Budgets are stressful. In my experience, they required me to focuse on spending a little bit less on each bucket of things each month. This caused me to lose out on small joys by causing me to feel bad about myself: "I hit my budget on going to the movies this month so to reach my financial goals I can't go to any more movies at the theatre".

In reality, the most direct path to financial independence is carved by simply changing habits rather than penny pinching each month. A change of habits with your largest expenses is really done once or twice per year. The top expenses are:

1. Housing
2. Transportation
3. Food

Bonus: utilities as they are directly related to your housing situation (e.g. bigger space requires bigger heating bills)

Order of operations matter, and most of us are doing it backwards

Here is how most people start their budget. I also used to do it this way:

1. They calculate their take-home pay, this is what paycheck hits their bank account after taxes are deducted and sometimes other costs like retirement-contributions through work, health care premium, etc.
2. Then they take that times 30-40% and say "this is what I can afford in rent" (or mortgage etc). Why 30-40%? Because "smart people said we shouldn't spend more than this on housing" so people normalized that this is the what you should spend. 
3. Then we deduct the utility bills that come with that big home we just signed up for.
4. Then we deduct our transportation costs.
5. Then we deduct our estimate of grocery and eating-out expenses.
6. Then we deduct our other bills (e.g. phone, internet, student loans, etc).
7. Then we estimate an allocation to entertainment because we deserve to have fun.
8. IF anything is left, and for most Americans there isn't, we earmark this for savings (either towards an emergency fund or towards retirement).

Why are #2 and #7 in bold? Because I want people to get in the mind set of switching them.

Here is how I start my budget: 

1. I calculate my take-home pay. 
2. I earmark the amount of money I need to save each month to reach my retirement goals.
3. I deduct an estimate of average utility bills for the smallest home I might need. 
4. Same as above.
5. Same as above.
6. Same as above.
7. Same as above.
8. I see what is left and this is what I can afford in rent/mortgage. 

Naturally, if the number you come up with in #7 is completely out of scope of the city you live in then most people immediately just throw in the towel and go back to the status quo (the first budgeting tool). But really this is an opportunity to do something hard: really think about what is causing this outcome and make a change. Are your housing standards too high/fancy for the income you make? Is the reality that you simply cannot afford to live in the city/area that you want to live in? If your priority is not reaching financial independence, then you probably aren't reading this blog. But if you are reading this blog, then you can happily revert to the status quo and continue living paycheck to paycheck and cross your fingers for the future. But if you are serious about reaching financial independence, this is the most important budget reversal tool you can use to get you there. 

Adjustments to housing, transportation, and food costs is really a once per year wake-up to go "wow, I have to make this huge change". Once you make these changes, you realize that overspending $50 on entertainment this week or overspending $30 on avocado toast isn't what's changing the needle and really just makes you feel shame when you don't nail the smaller line items every month.

When do I make budgets? When I'm moving

Moving cities or countries is the only time that a budget is useful for me. But I only use it in the estimation of what salary I need to earn, how much I can save, what costs are going to be surprisingly larger or smaller than I'm used to, etc. Once I have made the move, I am back to my default position discussed above. If my budgeting outcomes tell me that the amount left in #8 is below the price of rent in the area/city I want to live in, then I will reconsider even doing the move at all.

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