A recent study published in the Journal of Consumer Research shows that consumers who budget by the year do a better job than those who budget by the month. The researchers had a small group of college students prepare budgets; some by the year, some on a monthly basis.
The students journaled their actual spending over the next year, and the results were interesting. Those who budgeted for the whole year did far better at predicting their actual spending than those who budgeted by the month. Those with monthly budgets prepared for far lower expenses than they actually incurred.
In my heavily budgeted days, I actually did both yearly and monthly budgeting. I started with last year's expenses from my Quicken software, and used that to develop a new budget for the year. Then I would break out the yearly expenses by month, being careful to not just do a simple average (dividing the yearly expenses by 12). Since certain expenses like health insurance and auto insurance are paid quarterly or twice a year, I slotted those payments into the correct months to make sure I was financially prepared for those bigger payments.
I followed up each month by comparing my budget to actual costs, and that went a long way toward adjusting the budget for future months. I was able to get a much more accurate read on my expenses, trimming some accordingly and budgeting more for those that were regularly coming in higher than expected.
So my personal recommendation is to combine annual and monthly budgeting if you can, to help get an even better handle on your expenses. I know, I know. Some people are allergic to budgeting all together and the idea of tracking all their expenses makes them nauseous. Unfortunately, during tighter economic times, budgeting can be a key piece of your family's financial picture.
Tracy L. Coenen, CPA, MBA, CFE performs fraud examinations and financial investigations for her company Sequence Inc. Forensic Accounting, and is the author of Essentials of Corporate Fraud.
Budgeting by the year may give a more accurate picture