A Budget Strategy For Variable Income

If your income varies, you likely are faced with the challenge of setting a budget strategy. What will your income be? What assumptions are realistic?

But is it really any different than the challenge anyone with a fixed income has with creating a budget (e.g. Spending Plan)?

To be fair, unpredictability with respect to income can create it’s own stress. If you don’t know what your income will be, what assumptions are reasonable? Which are over-optimistic? Over-pessimistic?

Turns out, a large part of creating a Spending Plan based on variable income has almost everything in common with a Spending Plan based on fixed income. It may be tempting to blame variable income for not being able to create a Spending Plan, but that’s actually not the problem.

What’s usually the problem is not really being able to know what numbers to start with.

Because a conventional way of creating a Spending Plan tends to start with income, we might immediately get stuck. How do we know what number to choose for income when it’s variable every month?

And so, we have to approach it from a different angle.

1) We want to start with the essential fixed expenses that occur every month or every year. The usual suspects for this category include mortgage, taxes (e.g. income, property), insurance (health, homeowner’s, vehicle, life), utilities, phone, health club, retirement savings, tuition, and any others that are fixed, essential, and recur.

2) We continue by quantifying the next category of expenses: essential variable expenses. These include items such as groceries, transportation, home care, personal care. It also includes budget busters such as pet care (veterinarian visits), home repair, or car repair.

We now have a baseline Spending Plan that covers all those expenses essential to our lives. Regardless of our monthly income, as long as it covers this baseline, we can view any income over this amount as what’s available for the next 2 buckets: 1) Savings and 2) Lifestyle spending.

3) This is where it can get tricky: We all want to be able to enjoy life and partake in activities and experiences that enrich our lives and relationships.

Going out to dinner, meeting friends for drinks, taking our kids on vacation, buying presents, shopping, movies, and more: All these things really are not necessary, when you really get honest about it. Yes, they are nice, and we enjoy doing them. But they may come at the cost of peace of mind when we can’t cover them during months of less than average income. So while they may amplify our life’s enjoyment, they are not essential to our life’s enjoyment.

We may justify some of these by saying they are ‘priceless’; they really aren’t, (Mastercard just wants you to think so).

They are not priceless expenditures: Every price comes at the expense of something else.

But striking a balance between lifestyle spending and how much to save is where the challenge of trade-offs occur.

It’s also where our psychology with money and expectations, including aspects such as discipline and delayed gratification, come into play.

When we feel like these decisions are our own, we can start instead with how much we want to save. Remembering that setting a budget strategy is a function of tweaking the numbers until you get it right will help to not get discouraged or overwhelmed. It’s important to remember when numbers do or don’t line up the way we want them to.

Recognizing that our lifestyle has elasticity, and knowing where we can suspend activities and purchases until we realize the targeted income, immunizes us from going into debt or drawing from savings.

From here, you now know what your recurring Spending Plan will be. You have a strategy of suspending lifestyle spending in months when income is lower than average.

It may not feel like it, but there’s actually a huge benefit to variable income: It serves as a forcing function to live at a target level. After time, living at a target level becomes habit. You may realize that things that used to be viewed as essential are actually more elastic than before. And then in months where you have higher than average income, you can allocate part of it to savings and then the rest to lifestyle.

So, is it possible to have a budget (Spending Plan) when you don’t know what your income will be? Absolutely.

Is it more challenging that it would be with fixed income? Yes, but with fixed income your income doesn’t vary, meaning you don’t have those months where you will be above average in income and already used to spending less, thus being able to save more.

It’s all in approaching the task first from expenses: Actively knowing which expenses are lifestyle and which aren’t.

Then allocating any surplus income primarily to savings and some to lifestyle.