From government officials to leaders of large corporations and from heads of public institutions to small private entrepreneurs, using the revenue and expenditure budget has become a common practice. The question we will try to answer in this article is whether and in what way this financial instrument finds its utility in the family space as well. How do you build a family budget?
A millennial history
The idea that financial planning is a prerogative of the modern age has no objective basis. More than two thousand years ago, the Master of Galilee rhetorically wondered: “Suppose one of you wants to build a tower. Won’t you first sit down and estimate the cost to see if you have enough money to complete it?” (Luke 14:28).
This text is illustrative of at least two of the functions of the budget[1] (also known as the revenue and expenditure budget), namely the forecasting and financial balance functions. In addition, the quoted biblical text is an argument in favour of the idea that, both in terms of the current activity that takes place within the common household and in terms of carrying out family projects, the income and expenditure budget is a particularly useful instrument for financial planning and analysis.
Revenue: between estimation and security
According to its financial forecasting role, the budget must reflect, through its indicators, not only the needs of funds to be spent, but also the possibilities to cover them.
Obviously, those incomes that have a high probability of realisation will be taken into account, especially those of a repetitive nature, which come from regulated or contractual sources (salaries, pensions, allowances, interest on own deposits, and the like). A bonus, if it is based only on the promise of the hierarchical manager, can only be taken into consideration, at most, in the category of extra income, with the precaution of not being intended to cover definite expenses.
Otherwise, the principle of non-allocation of income is applied, in the sense that any financial resource is poured into the common “pot” of the family budget, without any specification on the expenses to be covered.
Expenditure: priorities and consequences
If the sequence of specifying the different categories of income has no special significance, except at most in quantitative terms, the structure of expenditures usually indicates the order in which they are to be made, according to a hierarchy of needs similar to the well-known “pyramid of individual needs”.[2]
Through the thoughts of the wise Solomon, Scripture also recommends a hierarchy of household activities and implicitly an order of priority of the related expenses: “Put your outdoor work in order and get your fields ready; after that, build your house” (Proverbs 24:27).
First come the obligations whose non-fulfilment generates either additional costs (increased interest, penalties) or other consequences (termination of contracts, reputational losses, etc.). In such a context, the Mosaic Jews and some of the neo-Protestant Christians give the highest priority to the practice of tithing, consisting of one-tenth of the revenue, which is intended to support church ministers and projects.
Another priority spending chapter is savings. Any savings guide respects the principle of monthly withdrawals. Studies have shown that people who are willing to save are those who are ready to postpone their personal satisfaction, preferring a later reward, a principle known as delayed gratification. Prioritising savings, in addition to increasing the certainty of their achievement, also has the role of forming the habit of saving, including as a result of the process of financial education.
Finally, we will complete the expenditure chapters with the satisfying of needs and other wishes, stating that it is difficult to establish a strict dividing line between these last two categories. A certain type of food or a garment can be regarded both as a basic necessity, in the sense of Maslow’s theory, and as a satisfaction of certain whims or extravagances, depending on the specific parameters of the consumption process: price, quantity, context, brand, fashion, etc.
Realism and correct anticipation
If, in institutional practice, the problem of correctly sizing the level of income and expenditure requires the use of modern methods based on cost-benefit analysis and other efficiency studies, the family budget too can be built on the classical methods.
Thus, if the demographic coordinates and socioeconomic parameters of the family are characterised by a relative constancy, the automatic method is recommended, according to which, for the preparation of the budget for the following year (t+1), the income and expenses of the year before (t-1) are taken into consideration, this being the year in which the exercise was completed.
This is because at the time of drawing up the draft budget for the following year it is not yet known what the definite achievements of the budget for the current year (t) are, which can be at most preliminary. The method is simple and does not require a significant number of activities.
If we are dealing with a predictable dynamic of the family context, the method of increase (or decrease, as the case may be) is recommended, consisting in taking into account the results of exercise budget over a period of several consecutive years from the period preceding the year for which the draft budget is prepared. Based on these data, the average annual rate of increase (or decrease) of budget revenues and expenditures is determined. Applying this rate to the revenue and expenditure of the current budget year determines the level of revenue and expenditure of the budget for the following year.
The direct assessment method is even more rigorous and involves calculations for each source of income and for each category of expenditure. For this purpose, the preliminary execution of the budget for the current year and the economic and social forecasts for the following budget year are taken into account. In estimating the revenues and expenditures related to the budget for the following year, their level for the current year is taken into account, which is adjusted according to any changes that will occur due to the influence of demographic, economic, social and other factors, with an impact on the family environment.
Balance and temperance
According to its function as an instrument of ensuring financial balance, the budget is used to ensure equality between revenues and expenditures. This relationship must be foreseen and realised both in terms of dimensions, on the total income and expenses, at the level of the family in question, and structurally, in the case of specific long-term projects (education, investments).
Obviously, problems arise when the level of expenses exceeds that of the income, otherwise the distribution of the surplus is an action that is easy to achieve and even pleasant. The undecided can proceed to increase the amount of savings.
Usually, as a first step to alleviate deficits, specialists recommend an increase in income. In the family context, such a solution can mean either an additional job, or having a person previously engaged in domestic activities or a retired person seeking employment or carrying out activities on their own, outside the permanent occupation (for example, beekeeping, marketing of agricultural products, or crafts).
There is also the option of obtaining extraordinary income (for example, from the sale of goods that we can do without), with the specification that this is a temporary solution, without impact on the substantiation of future budgets.
When such solutions cannot be applied or when they have a negative impact on other components of the family’s existence, the option of resizing expenses, in the sense of reducing them, remains.
A proper needs analysis can lead to the reduction of oversized costs or even apparent needs—in reality, not necessarily crucial desires. Let us not forget that the divine promise of earthly welfare is a model of simplicity and modesty: “(…) Their bread will be supplied, and water will not fail them” (Isaiah 33:16). Last but not least, we can postpone the satisfaction of certain needs, of course where possible.
(Instead of) conclusions
The function of controlling the financial execution is self-evident, if we consider that, in the last resort, the budget contains a series of estimates, the reality of which can only be assessed post-factum. Therefore, we will mention that the realism of the evaluations carried out during the preparation of the budget will be proven in the practice of subsequent financial activities, the budget execution consisting in highlighting the concrete dimension of revenues and expenditures made during the reference period, including differences with the forecasted values.
That is why, in the substantiation of future budgets, it is desirable to use mainly the budget executions from previous years and the preliminary values for the current year.
Dan Constantinescu knows that the basics of organising personal finances consist in compiling a budget. Therefore, he offers in a succinct way the necessary steps for the elaboration of an annual family budget.