Budgeting Basics: Create Personal Budget Categories The Smart Way

List of budget categories with pen

How budget categories are helpful

When it comes to managing your personal finances, budgeting is one of the most important skills to learn. That’s because making and sticking to a budget allows you to be purposeful with your money so you can maximize your income.

Without a budget, you’re more likely to create spending leaks that only waste potential savings and prevent you from reaching your financial goals.

Once you build these skills and start effectively managing your own budget, you’ll find that it becomes much easier to achieve the goals that you set for yourself.

However, just getting started can be a huge barrier for most people.  If you’ve been resisting setting up your own budget, it may be due to not knowing the steps to take and which step comes first.

Moreso, if your personal finances are in a state of disarray and creating stress for you, then you might be avoiding the whole issue because it’s overwhelming.

The reality is, if you don’t face your money problems, they will continue to get worse.  Setting up a budget and sticking to it takes time and effort, but I can assure you (through personal experience) that the benefits will far outweigh any discomfort you feel!

(And, if you cringe at the word “budget”, you can call it your spending plan or your cash allocation system.  Don’t let the wording trip you up. Part of a healthy money mindset is seeing a budget as a tool that enables you to have financial freedom, not financial limitations.)

So let’s just start with step 1:  setting up your personal budget categories.

Having a budget categories list will give you an overall view of where your money is going and is the beginning of taking control of your finances. It’s how you get your expenses organized so you can manage your money more effectively.

The good news is, you can make your budget list as simple or detailed as you like. As long as all of your expenses are accounted for and it makes sense to you, then your budget list should suffice.

In this post, you’ll learn how to create the best budget categories for your finances, along with various methods you can use.  I’ll also answer a few of the most common questions about budgeting, budget categories, and budget methods, as well as give you some alternatives to tracking your spending.

But first, let’s go through a few budgeting basics.

Why is budgeting important?

The main goal of budgeting is to be intentional about spending less than you earn. If you’re able to live within your means then you’ll always have enough money to cover your bills. A budget is one of the most effective tools to give you control over your personal finances and the ability to achieve your goals.

Spending less than you earn also allows you to set a portion of your income aside for saving and investing. However, knowing how to keep your spending within certain boundaries and actually doing it are very different things. Setting a budget might be easy on paper but in reality, you’ll face all types of challenges and pressures that make it difficult to stick to.

That’s why it’s important to break up your expenses into separate categories to make your budget easier to follow. If you can minimize the barriers to track your spending, you’re more likely to stick to your spending plan.

What’s the goal of your budget?

Hands surrounding coins

Setting a budget is a little bit like setting a workout routine. Almost all workout routines follow the same basic principles (exercising more, stretching, eating healthy, etc.) but they can still vary greatly based on what goals you’re trying to achieve. If you’re trying to lose weight then you’ll need to incorporate lots of cardio. If you’re trying to tone up then you’re better off with weight lifting.

That’s why, as you consider the budget categories you want to use, you should spend a moment or two thinking about what you’re trying to achieve. Assuming that everything goes well with your budget, how will your life improve?

Additionally, having a specific goal will also motivate you to stick with the budget that you set and make it more attainable.

Your goal doesn’t need to be a financial number. It can be as simple as “worry less about money” or “avoid impulse spending”.

Your budget list should include those categories that support the goals you want to achieve.

Here are a few examples of some of the most common goals of budgeting:

  • To save money for a short-term goal (a new car, phone, etc.) – For this goal, having a specific dollar amount that you need to reach will help you know how much you need to save each week or day.
  • To save money for a long-term goal (down payment on a house, college tuition, retirement) – Similar to short-term goals, you should budget a certain amount toward your long-term objectives. When you break down big goals into smaller steps, it’s much easier to achieve.
  • To get out of debt – If you’re behind the 8-ball financially then setting a budget is the best way to build good financial habits.  You can use your budget to maximize your debt payments so you can get out of debt as quickly as possible.
  • To improve your overall health/wellness – Money (or a lack of it) is one of the leading causes of stress. You may not realize it but getting a good handle on your budget can do wonders for improving your mental and emotional health.

Regardless of what your goal is, setting and following a budget is a surefire way to make sure that you reach it.

Why do you need different budget categories?

Breaking down your budget into different categories will make it much more digestible. This way, instead of looking at your spending as one big lump sum, you can see the various areas where your money is going. This also makes it much easier to know where you need to limit your spending.

For example, if you create your budget and realize that 50% of what you earn is going towards housing then you should probably consider moving to a cheaper area, downsizing, or renting out a room.

Or, you might not think that you eat out a lot but then realize that your “dining out” category is your second biggest expense.

Different budget categories help you see the big picture so that you can make small day-to-day changes.

How to create your budget categories

The best way to determine your budget categories is to consider what you spend your money on.  Of course, there are the typical categories that are common areas of spending for most people.  However, personal finances are personal, so the categories you choose will depend on your own unique circumstances, personality, and preferences.

Some categories will include your essential living expenses, while others will track your nonessential spending.  The important thing is to have a category for every expense you make, so all of your income is being accounted for.

As an example, you could create a budget and break down the categories like this:

  • Rent/Mortgage
  • Utilities
  • Groceries
  • Eating out
  • Entertainment
  • Gas
  • Savings

As you spend, just add each expense to its appropriate category. At the end of the budgeting period (typically a month), you’ll be able to see a clear breakdown of your spending. This works pretty well for most people since almost everyone spends money on the same basic categories.  It’s also the beginning of gaining control of your money.

Once you know what your average spending looks like then it’s just a matter of adjusting your budget categories so your spending is aligned with your goals.

By reducing some allowances and then reallocating that money to a different category, your spending plan can better reflect your financial priorities. For example, if you want to increase your savings and debt payoff categories, you can reduce your budget for less important expenses such as dining out or clothing.

How many budget categories do you need?

Coin stacks

There is no set amount of budget categories that you need and the right amount for you will depend on your financial goals. Additionally, this question depends a lot on your personality type.

If you’re analytical and feel more in control knowing where every cent is being spent then you can create your own Excel spreadsheet and get as detailed as possible. However, if trying to keep track of every time you swipe your card makes you feel overwhelmed then just a few budget categories will work for you.

However, as a general rule of thumb, there are a few main expenses that almost everyone will have to pay.

These are:

  1. Housing
  2. Food
  3. Utilities
  4. Insurance
  5. Transportation
  6. Nonessentials

Although you don’t have to include these items in your budget category list (as explained later under “simple categories”), these 6 areas will cover the majority of your expenses.  If you want to get a good handle on where your money is going, I would recommend including and tracking these expenses regardless of the budget that you make.

Keep in mind that the more categories you have mean the more complicated your budget becomes.  Don’t set yourself up for quitting by making your budget more elaborate than it needs to be.  Keep it as simple and straightforward as you can, so you’ll stick with it.

If even a 5 or 6 category-budget sounds unmanageable for you, you can keep things super simple by just breaking your budget down into fixed and variable expenses.

Fixed expenses are expenses that you pay usually once a month and rarely change. A few examples are your rent or mortgage, insurance, or cell phone bill.

The other category is variable expenses. These are expenses that can fluctuate weekly or monthly depending on how much you decide to spend. A few examples of variable expenses are how often you eat out, new clothes, or how much you save.

Since your fixed expenses rarely change each month you can just focus entirely on minimizing your variable expenses.

Although this strategy won’t give you specifics on your spending, it’s one way to start budgeting quickly and easily.

What should my budget category percentages be?

Again, how much you spend on each category will come down to your own financial goals and preferences. It’s also important to remember that your financial priorities will be different than someone else’s.

For example, some people might frown upon the thought of spending money at a restaurant while you have no problem dropping $50 for a nice dinner. However, the same people who balk at a $50 dinner might love to travel and spend $500 each month on a trip.

We each have different categories that we think are worth the extra spending, so be sure to focus on what’s important to you.

With that said, a good general rule of thumb is to limit your mortgage or rent to 25% of your net income and keep all other categories between 5-15%.

Here is one example of budget percentages:

  • Housing: 25%
  • Insurance (including health, medical, auto, and life): 10%
  • Food: 10%
  • Transportation: 10%
  • Utilities: 10%
  • Savings: 10%
  • Entertainment (anything fun): 10%
  • Clothing: 5%
  • Miscellaneous: 10%

Remember that this is just a guideline and there is no right or wrong way to spend your money. Your values and your goals should guide these decisions for you.

Detailed budget categories

Friends having coffee

The more expenses you can lump together in one category, the less complicated your budget will be.  But, if you want to know exactly how much you spend on coffee shops, haircuts, and shoes, then you might want to go with a more detailed budget category list.

Just take your main categories and break them down into smaller ones.  There is no right or wrong way to do this.  You could have 10 subcategories under one main group, or (for example) categorize all of your food expenses in one category but have one sub-category for coffee shops.  It all depends on the budgeting goals you’ve set for yourself.

To give you some ideas, here is a list of main categories that are broken down into more specific expenses:

  • Income
    • Salary & wages
    • Alimony
    • Child support
    • Tips
    • Investment income
    • Monetary gifts
    • Work bonus
    • Refunds/reimbursements
  • Savings
    • Retirement funds
    • Emergency savings
    • College fund
    • Travel fund
  • Debt payments
    • Credit cards
    • Medical Bills
    • Auto loan
    • Student loans
    • Payday loans
  • Insurance
    • Health
    • Dental
    • Vision
    • Auto
    • Life
    • Pets
  • Housing
    • Mortgage or rent
    • Property taxes
    • Homeowner’s insurance
    • HOA fees
    • Home improvement & repairs
  • Utilities
    • Electricity
    • Natural Gas
    • Water
    • Garbage pickup & recycling
    • Sewer
    • Internet & cable
    • Landline
    • Alarm
  • Food
    • Groceries
    • Restaurants
    • Coffee shops
    • Fast food
    • Alcohol
  • Household
    • Kitchen supplies
    • Bathroom items
    • Garage items
    • Laundry products
    • Lawn & garden
    • Pet supplies & grooming
  • Personal Care
    • Skincare and hair products
    • Barber and salon services
    • Medications & prescriptions
    • Glasses & contacts
    • Toiletries
    • Massages
    • Physical therapy
  • Entertainment & Recreation
    • Books, music, streaming services
    • Movie theaters
    • Subscription services
    • Sporting events & concerts
    • Clubs & hobbies
    • Special outings
  • Gifts
    • Birthday
    • Anniversary
    • Christmas
    • Other holidays
    • Baby showers
    • Weddings
  • Personal expenses
    • Clothing
    • Shoes
    • Accessories
    • Jewelry
    • Lingerie
    • Perfume/cologne
    • Cosmetics

Simple budget category methods

If breaking down your expenses into a dozen different categories doesn’t appeal to you, there are a few simpler ways that you can set your budget:

3 types of expenses – Similar to the 2-category method mentioned before, this strategy is very simple and can be applied to anybody’s budget.  The three expenses that the majority of people must account for are fixed, variable, and periodic. You can fit each of your expenses into one of these three categories.

Pay yourself first – This budgeting strategy places the highest importance on savings and debt payoff. Essentially, you use a certain percentage of your income to build savings and/or pay off your debt before you pay any other expenses. Then, you use the remainder of your income as you see fit. This method ensures that your most important financial goals are being addressed so you don’t have to track your discretionary expenses.

Money buckets – Another strategy is to separate your spending into different “money buckets”. Determine how much money you want to allocate for each bucket and then set up different checking accounts for each. For example, say you give yourself a budget of $200 to eat out each month. You can open up a new account (or simply take out $200 cash) and fund it. Now, whenever you want to eat out you have to use this account and when it runs out of money then you’re done eating out for the month.

50/30/20 Budget – This budgeting method only has 3 categories so it keeps things simple.  Each number is a percentage of your income, where 50% is for necessary expenses, 30% goes toward discretionary spending, and 20% is allocated to savings and debt payments.  If these percentages are unrealistic for your circumstances, customize it for your own needs.

Conscious spending This idea was popularized by Ramit Sethi. Ramit suggests that you should split your income into four categories (fixed costs, investments, savings goals, and guilt-free spending). By focusing your spending on these categories in order, it will make sure that your most pressing obligations are paid first. Once you’ve paid bills, invested, and saved then you can spend the rest of your money guilt-free.

The “No” strategyThis simple spending approach gets its name from the discipline of saying “no” to overspending and relies heavily on having a heightened awareness of your bank account’s activity.  The basic premise is knowing what funds are available in your account for discretionary expenses, and not spending any more than that. This works best if all of your bills are paid at the beginning of your budget period, and you’re disciplined with setting some aside for savings.

How to track your budget categories

Woman using mobile budgeting app

The easiest way to track your budget categories is usually to use an app or software that will track your spending automatically. Luckily, there is no shortage of options when it comes to finding good budgeting software. The more important thing is to find the method that works the best for you.

Here are a few of the best options:

  1. Your banking app – Almost all banking apps include this functionality. Since they already know how much you’re spending then this is the easiest option since you can keep it all within the same app.
  2. Pocketguard – Categorizes and organizes your expenses, monthly bills, and subscriptions into easy-to-follow tabs and even recommends which expenses you could cut.
  3. Mint – Mint will automatically suggest budget goals to you based on your spending.
  4. You Need A Budget – This software uses four simple rules to help you quickly gain control of your money, get out of debt, and save more money faster. On average, their users save an extra $6,000 per year.
  5. Personal Capital – Personal Capital offers tons of free online financial management tools that are incredibly valuable.
  6. ClearCheckbook – This one is less well-known, but the one that I personally use.  It’s like an online checkbook register, except you can also set up a budget and track your spending by categories.  I use it because I like the hands-on aspect, which keeps me in tune with my money. There is a free and a paid version.

If you don’t want to download another app then you can also always go it alone! Track your expenses manually using an Excel spreadsheet, the notes app in your phone, or even just a notebook! The process of manually recording every purchase can make you more aware of how much you’re spending.

In a nutshell

Assigning different categories to your budget will help you track your money more efficiently and keep your finances organized.  Your budget categories will be unique to your personal finances and should reflect your money goals.

Whether you have 3 budget categories or 33, it’s important to keep a budget.  Creating a spending plan for your money allows you to be intentional with your finances and helps you be in control of how your money is working for you.

Other posts you may be interested in:

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Budgeting Basics: Create Personal Budget Categories The Smart Way

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