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Applying Basic Accounting Principles to Managing Your Finances

Accounting Principles

It’s a jungle out there, both in business and the economic world as a whole. It takes some doing to stretch a finite amount of income to cover your family’s needs, and hopefully a few wants while saving for the future. Yet, that’s exactly what a household CEO must do to thrive and to avoid faltering financially, in the same way companies can and do fail.

Luckily, there are some basic accounting principles that provide a roadmap to navigating your personal finances. Even the most math- and money-phobic person can grasp these guidelines and take them to heart.

Many people find the assistance of an expert accountant—one skilled in budgeting, investing and planning —is well worthwhile. Whether you go it alone or lean on a professional, you’ll profit by familiarizing yourself with some rules of the game.

Set A Budget

Prospering economically starts with a fundamental precept: don’t spend more than you make. Reaching this aim starts with setting a budget.

Starting Out

Before sitting down to create your budget, collect a month’s worth of pay stubs, bank statements, and bills. It’s also helpful to keep a financial goal in mind while crafting your budget, like:

  • Putting money in a college fund
  • Reducing your debt
  • Repairing your credit
  • Saving for a house or car
  • Saving for retirement

Setting a goal keeps you on track toward your long-term financial plan, an actionable strategy you can create on your own or with an accountant who includes financial planning among their services. Tracking your progress toward a goal can also serve as an incentive when you’re making tough decisions, like trading this year’s vacation for a more modest “staycation.”

Determine Your Bottom Line

Next, it’s time to crunch some numbers. You can determine your bottom line by taking your monthly household income and subtracting everything you plan to pay for during the month, including fixed and variable expenses as well as discretionary spending.

Fixed expenses typically remain the same from month to month, while variable ones change a bit. When you’re creating your budget, you’ll have exact numbers for your fixed expenses but will be estimating variable expenses based on past behavior.

You want to budget conservatively for variable expenses because having an overage at the end of the month is better than falling short. For example, if you typically spend between $400 and $600 per month on groceries, it’s best to assume you’ll spend the larger amount.

Cut Back on Spending

If you’re making less than you earn and you want to stop the pattern, you need to cut your expenses. This is also the case if you’re in the black but want to introduce new expenditures or save for future ones.

Discretionary spending

The easiest place to start cutting is your discretionary spending. These are enjoyable but unnecessary expenditures like:

  • Cable or satellite TV
  • Clothing or beauty products
  • Eating out or going to the movies
  • Gym membership and hobbies
  • Personal gifts and donations to charitable causes
  • Vacations

Variable Expenses

Variable expenses are typically necessities, but the amount you spend on them can vary from month to month. These include:

  • Cleaning supplies and toiletries
  • Credit card payments
  • Gasoline
  • Groceries
  • Utility bills (electric, gas, and water)

You can work to minimize varying monthly expenses, too. For instance, you can save considerably on groceries by making meal plans ahead of time and drafting your shopping lists accordingly. This makes you less likely to overspend based on impulse and guesswork.

If possible, though, forgo cutting the amount you contribute to your credit card debt. If you can pay credit card debt off in full rather than the minimum amount each month, you’ll reap exponential savings in interest fees.

Fixed expenses

Fixed expenses carry the same charge and are generally include non-negotiable needs, like:

  • Alimony payments
  • Insurance premiums
  • Loan payments
  • Mortgage or rental payments
  • Property taxes
  • Spousal support
  • Tuition for school or daycare

Once you’ve addressed the lower-hanging fruit of discretionary and varying expenses, you can look for savings among your fixed expenses. For instance, you might take advantage of low-interest rates to refinance your house and get a lower monthly mortgage payment. Unlike cutting discretionary income, however, altering fixed expenses takes some time and effort.

Save For A Rainy Day

Ideally, a budget includes money put into savings accounts for long-term goals like retirement. At the very least, however, you should aim to create short-term savings for the proverbial rainy day.

Creating An Emergency Fund Is Crucial

If, like so many Americans, you live from paycheck to paycheck, you know how financial emergencies snowball.

Your car breaks down and a sizeable repair bill eats up your paycheck. You pay your bills late as a result and find yourself levied with late fees. You fail to pay your credit card bill and interest charges accrue. You float a check and end up with a bank fee for being overdrawn. You may even end up taking out a payday loan with its associated fee.

This downward spiral can be avoided by maintaining an emergency fund. Having a couple of thousand dollars tucked away can make all the difference when it comes to emergencies like an inoperable car.

If you can, though, try and save a more sizeable amount of money. Financial experts suggest you keep between three and six months of living expenses in case of catastrophic events like job loss, illness or injury.

These are just a few basic accounting principles that can guide you when it comes to navigating your personal finances. For more information or professional assistance, contact the experts at AA Tax & Accounting Services.

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