Five simple rules for the monthly budget

KARACHI: Many people who seek financial advice often ask for an uncomplicated action plan that tells them exactly what to do. The simplest tool that most financial advisors can recommend is the monthly budget. Most people do not have one and everybody truly needs it. So here are some simple tips on how to create the budget and get the most out of it.

Rule 1: Create a budget

This is not quite as complicated as it may sound. One does not need have a detailed budget, but merely an outline of allocations to various categories on expenditure for every month. A typical middle class budget should include allocations towards food, clothing, utilities, entertainment, education and savings.

The specific proportions of these will vary depending on the size and nature of the household and the position of the person earning within it, for example: you could be the head of the household or one of their offspring who happens to have a job). But there are some simple rules that apply to everyone.

Rule 2: Save at least 25% of your post-tax income

This rule applies to everyone except workers who are within ten years of their retirement. Saving is an extraordinarily important item on the budget. But too often, it is simply seen as what is left over after we are done buying what we want to buy, rather than being a hard constraint against which we must restrict our spending.

The actual allocation of where this savings goes (retirement, children’s education, emergency cash, short term needs and so on) will again depend on the specific circumstance of the investor. Generally speaking though, the younger the investor, the more should go towards longer term savings.

Rule 3: Force yourself to save

Saving regularly requires self-discipline, of course. But that discipline can be easier to achieve than one might think. For instance, most asset management companies in Pakistan offer ‘systematic investment plans’.

Under these plans, you can authorise these companies to automatically withdraw a specified amount from your bank account every month. This removes the decision on how to much to save from your hands and allows you to focus on managing to live within your non-savings, consumption budget.

Rule 4: Get a mortgage ASAP

Most Pakistani yuppies live in their parents’ house, which allows them to essentially live rent free for as long as they choose. There could not possibly be a more advantageous situation when it comes to being able to afford one’s own property in some of the more expensive real estate markets in Pakistan.

It is absolutely essential to start saving for the down-payment on a mortgage for all urban professionals, regardless of gender. This savings must come to at least 25% of income and is separate from the 25% savings mentioned in rule one. Of course, this also involves having a realistic idea about the kind of place you can afford, but that is a discussion for another day.

Rule 5: Never, ever use your credit card

There are no ifs and buts about this rule. Never, ever use your credit card. Contrary to common perception, all you need to do to have a good credit history is to have a credit card and never be late on paying it and never carrying large balances on it. All of this can easily be accomplished by never using the card in the first place. Expect more on credit histories in future articles.

Published in The Express Tribune, August 16^th, 2010.