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Where’s the Budget?!

Oct. 1, 2012
Managing Money, Personal Finance
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You might be wondering by now—this is a personal finance contest. Shouldn’t you be saying something about budgeting? Shouldn’t we be getting out our Excel spreadsheets?

No. The goal of budgeting—helping you save more and control the way you allocate your money—is good. But the process of budgeting is dysfunctional.

At a recent conference of personal finance bloggers in Denver, best-selling author and personal finance guru Ramit Sethi, author of “I Will Teach You To Be Rich,” made some outspoken remarks about budgeting. “Why does everyone talk about budgeting?” he asked a room packed with personal finance advice-givers. “No one keeps a budget! I don’t, you don’t, nobody does.” Sethi has elaborated on that concept more on his blog: he believes that budgets and by extension frugality are both just a way to make yourself feel guilty. It’s important to be realistic, not idealistic, he says: human nature will win out, and human nature spends.

Summoning the constant, ongoing discipline necessary to track and limit your spending is not only difficult, it’s flawed by nature and sets you up for failure. Duke University Professor Dan Ariely, who studies psychology and behavioral economics, talks about the phenomenon of ego depletion, or the state where we don’t have the energy to make good decisions. We arrive at that ego-depleted state by making more and more decisions. After making the mountain of decisions involved in a busy workweek, Ariely says, we’re not going to do our best work or make our best decisions on Friday afternoon. “A crucial aspect of managing depletion and making good decisions is having ways to release stress and reset, and to plan for certain indulgences,” Ariely wrote in a recent blog post.

So making the decision not to budget doesn’t translate to letting yourself off the hook—it means you’re not wasting your decision-making power and discipline on a tedious Excel sheet.

However, what about the goal of a budget? If budgets don’t work, what should you do to keep yourself financially balanced and on-track?

Basically, you need to build a system for yourself that gets all your money to where it should be going without you having to make the decision to send it there each time. This process, called automation by Sethi and Ariely, means making the process of “where your money goes” as decision-free as possible. It will give you the same control over your finances, including saving for goals or paying down debts, that a budget could (if budgeting worked).

To set up an automated system for your money, envision a flow chart, starting when you receive your paycheck from your employer (of course, some people’s income doesn’t come in two convenient paychecks a month—but the point is to think of your paycheck as a unit of income, so adjust the unit of “monthly paycheck” to whatever works for you, i.e. $100 of income). Designate how much of the paycheck should go towards which areas. For instance, you might decide that you will put 5% towards repayment of credit card debt, 5% into your 401(k), 5% into your savings, and so on.

Once you have decided what amount of your income should go where, it’s time to think about how you can automate as much as possible. Your 401(k) contribution can be taken automatically out of your income (since it’s not taxed), and if you are putting money into an IRA, that contribution can be automated from your checking account as well. Bills can be placed on your credit card, and monthly credit card payments can be scheduled. Within the amount that goes into your savings account, create smaller subaccounts for specific savings goals, such as weddings and travel.

Remember with a highly automated system that it’s crucial to make sure you review your credit card statement, and checking/savings account activity, each month. Automation is great, but be sure you carefully oversee the process, and regularly rethink your allocations in order to make sure they’re in line with your goals.

The fewer individual times you have to exert discipline to keep your savings and other money goals on track, the fewer chances you have to fail. Having a great personal financial system is never as simple as a pre-packaged solution, and automation allows for a lot of flexibility to decide what works for you. Make your money get where it’s going without you having to make a decision each time, and you can relax and spend your brainpower on bigger decisions.