PFRDA

Budgeting & its Importance

Expenses and needs rise for much of the early (young) earning and middle earning years leaving very little for saving even though incomes also go up. Overtime as expenses stabilize, savings increase. However, leaving savings for later in life when income is high enough may lead to many goals, including Retirement, being underfunded. It is important to start early and build the funds required over time out of savings so that there the risk of the accumulated funds being inadequate to meet the goals is reduced. Budgeting is one way to inculcate the discipline to save for goals.

In the early years when income is tight, a budget is a useful tool to help live within the available income and apportion some portion for saving. In the later years when income is adequate a budget helps in increasing savings with a focus on the goals.

Budgeting involves listing in detail the income and expenses of a household. The idea is to be able to contain the expenses within the income available and determine the savings possible. The process of listing and itemizing the income and expenses gives clarity to an individual’s financial situation.

	Particulars	Amounts (in Rs.)
	Income
1	Salary /
2	Other Income (rent/ interest/ capital gains)
	Total Income	A

	Expenses
1	Liabilities & Mandatory Expenses
1. i	EMI (Car/ Personal/ House/ Education)
1. ii	Taxes

2	Essential Living expenses
2. i	Rent
2. ii	Insurance (health/ car/ life/ house/ general)
2. iii	Household expenses (food/ grocery)
2. iv	Transportation (petrol/ car maintenance & Communication (mobile bills/ telephone bills) etc.
2. v	Education
2. vi	Medicine and Health related expenses (doctor visits etc.)

3	Discretionary expenses
3. i	Entertainment and recreation
3. ii	Holiday plans
	Total Expenses	B

	Savings	C = A - B

There are mandatory/ liabilities expenses, such as taxes and loan repayments that have to be first met out of available income

Then there are essential living expenses related to housing, food, education and transportation that have to be met. These are a category of expenses which cannot be avoided but the individual can cut back and economize depending upon income available and savings goals.

Discretionary expenses, related to entertainment and recreation, are the last category of expenses that can be cut back or even eliminated.

Note- Overestimating income or underestimating expenses are both dangerous for goals. In both scenarios savings are likely to be lower than what was expected and will result in goals being underfunded.

How does budgeting help?

A budget helps identify wasteful expenditure that can be eliminated or reduced to accommodate saving for goals. Changes to income and expenses over time are reflected in the budget as they happen. Listing them and knowing where the money is being spent allows better control on savings and calibrating it to the desired goals.
A budget helps in prioritizing expenses and goals, given the expected income. It gives clarity on what financial goals are realistically achievable given the available income and level of savings. It helps direct scarce funds to goals that are important. The income and savings made from it are accordingly assigned to current expenses and future goals which are a priority.
Financial goals like retirement that cannot be given up or avoided have to be funded first and get a priority claim on available savings. It is important for a budget to be realistic about current income and expenses, and therefore on possible savings.