Budgeting is difficult enough when your income is the same each month, but that difficulty escalates when the income fluctuates. Don’t despair…you CAN learn how to budget for an irregular income by following five simple steps.
1. Know your expenses.
If you keep good records, simply go back over the past three months to get an idea of what you have been spending. If you don’t have good records, make an educated guess, track it going forward and make corrections each month. For our example (see Step 3), we will use $3,500.
1A. If you run a business, use a business account.
I call this step 1A because it doesn’t apply to everyone with an irregular income. However, if you run your own business, you need to deposit all business income into your business account and pay all business expenses from that account. From your gross profits, you should set aside a percentage (25% would be good) for taxes before transferring any funds to your personal account. Your accountant will be proud of you and your business account will effectively be tracking your profits.
2. Learn how much your irregular income fluctuates.
Track your take home income over the past 12 months to see how much it fluctuates from your average. For example, if you average $3,500 a month, and your high is $6,000 while your low is $1,500 you fluctuate from a positive $2,500 to a negative $2,000.
3. Set up a “Hill and Valley” Account
This step is the key for making your irregular income budget work. Here is how it works: You know from Step 1 that you need $3,500 for your monthly expenses, so when you have a $5,000 month (a hill), deposit the extra $1,500 into your hill and valley account. Then, when you have a $2,500 month (valley), draw $1,000 from this account. Your “extra” (hill) money will always have a name and those valley months will no longer spiral your stress level upward.
4. Be patient.
As in any budget, don’t expect this plan to work immediately. It will take time, especially if you start out with several valley months. But be patient; you can make it work if you stick with it.
5. Set your priorities
This common sense step is a planned contingency for extra valleys or unexpected hills. When those valleys have depleted your hill and valley account, someone isn’t going to get paid. Decide ahead of time who that will be.
On the other hand, when your hills start becoming mountains (this is a good thing!), you need priorities for determining what to do with your “extra” money. First decide the maximum you think you need in your hill and valley account (say $5,500) and then earmark how you will use all funds accumulated over that $5,500 plateau. This step not only gives you a plan for your money, but also eliminates the allure of impulse spending.
Bonus hint:
If you happen to drive on mileage, set up a separate “vehicle account”. Put all of your mileage receipts into this account and pay all vehicle expenses out of this account. You will be not only be building up funds to pay cash for your next vehicle, but you will keep those car payments out of your family budget. Simple and effective.
Summary
Irregular incomes may be more difficult to budget than regular ones, but you can do it. These tips work, but they won’t work for you unless you decide to make them work. Give them a try. You will be glad you did.
Do you have an irregular income? How do you manage your budget? What additional tips do you have?
photo credit: khrawlings
I have been thinking of a business idea for those with irregular income. You trade in your lump sum for a weakly paycheck. Sort of like a VERY short term fixed annuity.
Evan,
Might work, but isn’t my “hill and valley” account the same concept by doing it yourself?
It could but this would take the discipline away from a person. THey would be set up an income stream. Sort of like turning their commission based into a salaried position. Just an idea I have been messing with.
Now that I think about it, you may be onto something. Although some families could handle the discipline of a hill and valley account, I like the concept of “automating” their income so that discipline isn’t required. My hunch is that many irregular income earners are good at earning (commissions or running their own business) but not necessarily good at managing budgets.
I love the idea of the “hill & valley” account. Also, having a system in place to avoid wasting the “hills” is important. So many people would deplete the account BEFORE ever hitting a “valley”!
Also, the mileage/car account for business owners is great! That can really help one see the impact of their business driving. If you mainly use the car for your business and the account never has enough to cover your expenses, there is a problem!
Khaleef,
This are very simple concepts which really work because of their simplicity. I used to drive on mileage and once I figured out that I needed a separate account for that vehicle, I never had any problems with payments, repairs, tires, fuel, etc. Of course I eventually began paying cash for my vehicles, all out of that fund. Simple and effective.
Yes, the hill and valley account is very helpful. This always reduces anxiety because you have a plan.
I’m glad you added 1a, so many people write about being self-employed, but never mention saving away for taxes. I am glad that we do. I want to get a hill and valley account set up, but we haven’t had any $5,000 income months yet, we are stuck with the right on or low income months so far.
Lizzy,
Good job setting aside money for taxes! I assume, that once you have a few “hills”, you will be able to get that hill and valley account up and going. Keep on target and those hills will be coming your way.