Over the last two years Samantha has been steadily growing her marketing business. Compared to the first year her income has doubled, but somehow she finds herself still struggling to pay all her bills. Although her lifestyle is much more lavish now than a year ago, she doesn’t understand why she still struggles. Lifestyle creep is ubiquitous for anyone on an upward trajectory in their income. It starts out small, just a bit more disposable income to spend on your favorite activities, and soon escalates to feeling a pinch in your wallet.
Samantha is aware of lifestyle creep and thought she had it under control by saving a percentage of her income before beginning to spend. Although this has helped her meet her savings goal, she feels like she should be saving more while also rewarding herself for the extra work and effort. Depending on your specific budget goals and style, you have to be very perceptive and diligent to efficiently manage lifestyle creep while still letting yourself enjoy the extra income guilt-free.
Although she wants to save more, Samantha also wants to feel financially rewarded for the extra effort she’s put toward growing her business and making more money. In order to achieve her goals, she worked with her coach to come up with a two-step budget. Use the process below to guide you through a two-step budget that effectively manages lifestyle creep and helps you save more money, while still feeling rewarded for your extra work.
1: Calculate living expenses
In order to determine what your budget amounts are going to be, always start with what you know for certain. This would include your rent or mortgage, insurance, grocery bill, etc. These are the bills in your life that you can’t easily reduce or delay paying. Samantha knows she needs a minimum of $2,000 per month to live comfortably but without a lot of disposable income.
2: Set savings goals
Don’t limit yourself to just one savings account or goal. You can save for different reasons such as healthcare costs, retirement, buying a home, etc. It will be easier to save if you have a specific goal in mind. Samantha set a retirement savings goal of $400 per month, healthcare savings of $100 per month, and an education savings goal of $100 per month.
3: Calculate business costs
If you run a business, it’s important to know your business operating costs. Depending on the size of your business this endeavor can scale from simple to very complex. When your business is large, your income is usually steady enough that it won’t impact your personal budget. Samantha provides professional marketing services and her operating costs are typically $500 per month.
4: Determine baseline amount
After you calculate your living expenses, set your savings goals, and consider your business expenses, you should be able to calculate your baseline amount. This is the minimum amount that you need in order to pay your bills and live comfortably. Another way to come to this amount is to work backwards: look at how much you are spending now and subtract discretionary purchases. The baseline amount for Samantha is $3,100, which she is also able to confirm by taking her average income over the last three months ($4,500) and subtracting her discretionary purchases.
5: Budget discretionary income
Once you determine your baseline, decide how you will spend your additional income. This additional income earned is completely discretionary and should be divided between rewarding yourself and saving more money. This final part is what builds the second step in the two-step budget and allows you to have discretionary income you can spend guilt-free. Samantha is currently spending all her extra income on discretionary purchases but she wants to save 50% of it in the future.
After going through the process of setting a two-step budget, Samantha is able to pinpoint how she has been spending her discretionary income instead of saving it. With her two-step budget set, she knows she has to save $600 per month—her baseline savings goal—and 50% of any income she makes over $3,100—her baseline amount—to meet her goals. This still incentivizes her to grow her business since 50% of any income over $3,100 will be completely discretionary, which she can spend guilt-free!
This article originally appeared on Forbes