Why Knowing Where Your Money Goes Changes Everything
Key Takeaways
- Understanding your spending is essential to long-term financial success
- Spending is the one part of your finances you fully control
- A clear Spending Plan helps align your money with your values
- Tracking your spending regularly builds confidence and reduces stress
A friend recently told me that all he wants to know about his finances is how much money he needs before retiring. He does not care about understanding his spending or even looking at it. He knows his spending is high today, but believes he can reduce it at any time, and the best time seems to be retirement.
This mindset does not lead to financial success.
The Three Inputs of Financial Success
Why can’t you ignore your spending? Because it is a crucial part of the equation:
What you have + what you make - what you spend
If the result is positive at the end of your life, you have succeeded.
Most people know what they have and what they make, but almost no one truly knows what they spend. As you can see from the equation, spending is just as important as the other two. In fact, it is more important because it is the only one you fully control.
What you have today was decided by your past actions. There is nothing you can do to change that. What you make today is influenced by your employer, the market for your skills, and many other factors outside your control.
But you decide your lifestyle and how much you spend.
This is why giving every dollar a clear role in your financial plan can make such a difference.
Financial Success is About Control
A quick note about emotions. They are a big part of this topic.
Money can be emotional, and spending often brings out strong feelings, both good and bad.
Many people feel guilt or shame when thinking about their spending. Whatever you feel is okay. Acknowledge it, but do not let it dominate your decisions.
Feelings can guide you, but they should not control you. Focus on the numbers.
How to Build Your Spending Plan
Your Spending Plan should be personal to you. It should not be based on rules of thumb or what others are doing.
Here is a simple process to understand your current lifestyle.
1. Get All Your Spending Into One Spreadsheet
Download transactions from every account you use:
- Checking
- Credit cards
- PayPal or other platforms
Combine everything into one spreadsheet. You may need to adjust columns to align the data, but once that is done, you will have a complete picture of your spending.
2. Determine Your Categories
Start with a limited number of categories. Around 15 is a good place to begin.
This means many transactions will fall into a “Miscellaneous” category.
You can add more categories if they matter to you, but only if you want to track and control them.
Avoid going over 20 categories. Too many categories make your spending harder to interpret and your spreadsheet harder to maintain.
3. Categorize Each Item
Now comes the elbow grease.
Sort your transactions by description, then assign a category to each one. This may take time, but sorting helps group similar expenses together.
4. Check the Data
Summarize your spending by category and review anything that looks too high or too low. Compare those numbers to the actual transactions.
This step builds confidence in your data.
5. Build Your Spending Plan
Now that you know what you spent over the last year, you can begin planning for the future.
The value is not in the past data itself. It is in using that data to estimate future spending.
Once you assign expected amounts to each category, you have your Spending Plan.
This is also where understanding how to handle extra cash becomes important.
Track Your Spending Monthly
At the end of each month, update your Spending Plan with new transactions, categorize them, and compare them to your plan.
This does not need to be complicated. A quick review is often enough.
Some categories will be over and some will be under. That is normal.
Focus first on categories that went over plan. If there is a clear reason, move on. If not, consider adjusting your behavior or your plan.
Then briefly review categories that are under plan.
Keep Your Quantitative Hat On
Approach this exercise analytically.
Emotions will come up, and that is okay. But your financial decisions should be based on what the numbers show.
The numbers do not change because of your feelings. They change because of your actions.
After Control Comes Joy
Once you understand your spending, you are in control of all three parts of the equation.
Very few people can say that.
And when your spending aligns with your values, you can enjoy your money without guilt.
To share your comments, email Joe@BestFinLife.com.
If you are ready to improve your financial life, schedule a complimentary virtual conversation here.
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