Debt Guide – Step 2 – Follow A Budget


You should have no credit cards in your wallet and you should have a debit card in there instead. You are safe to begin working on this step any time, even before you get your debit card (for example).

What Is A Budget

Keeping a budget is not about limiting yourself, because YOU set the amount for each category. You can spend $1,000 every month on chocolate cake and bobble heads if you want. Keeping a budget is about tracking and being aware of where the money goes. It’s like mindfulness for your bank account.

When we track our expenses it not only gives us a clear picture of where our money goes, but it allows us to be more aware of what’s important to us in life. This is one of the goals of tracking our expenses – to be able to make decisions that will maximize our joy.

Money is a limited resource and budgeting is a way of managing that resource. If you naturally use very little of a resource and it’s plentiful, then you don’t have to worry about it. If it’s limited and you would naturally use it all up then it needs to be managed. Budgeting means you’ll never surprised by an expense. It also means that you choose the categories and amounts that you think you’ll spend for the next month before that month comes (not during the month or afterwards).

Knowing what a budget is is essential for doing it right and there are two easy ways to understand what it is. The first is the envelope system. It’s where you write different categories on lots of envelopes and shove money into them. So you might have envelopes for “eating out,” “phone bill,” and “credit cards.” Then the only money you spend on a category comes from the envelope in that category. “Envelope” and “category” can be used interchangeably and thinking of categories as envelopes makes budgeting easier.

The other way to look at it is like a business. At the very least, a successful business needs to know whether it’s making money or not, so it needs to know how much it has spent on supplies, employees, electricity, etc. before looking at income. A business owner that doesn’t know how much they spent on their inventory is likely to be out of business very soon. Your budget is the business of you. Let’s make it successful.

The Time Necessary

Remember earlier when I mentioned committing to spend time to improve your finances? That’s where this step comes in. If you’ve never done a budget before it will take some time at first. Once you get good at it, it will take less and less time. I spend about 15 minutes twice a month plus about 30 minutes at two other times per month on my budget because I’ve been doing it for years. Before you’re familiar with the software I suggest you plan on spending about one hour every week. It’s more effective to consistently work towards your goal of being debt free than it is to have a few marathon sessions where you try to figure everything out. So if you’re tired of it after an hour, save the rest for next week!


Sign-up for YNAB

Go to and sign up (tip: click here to get 3 months of YNAB free at signup). Once logged in, link all of your bank accounts and credit cards. Linking your student loans and mortgages is not usually necessary. Only link your student loans if you’ll be taking out more loans in the future. If you’re not in the US or Canada, or for some other reason your bank is not recognized by YNAB then not to worry – we’ll go over importing data.

Importing Data into YNAB Manually

If you’ve linked all of your accounts then skip this section. This is for folks that use non-US bank accounts.

Go to your bank’s website, login, and download your transactions. Go back into YNAB, click on the account for your bank, then click Import. Choose the file you downloaded from your bank.  

Here’s a video explanation of how to import transactions manually.

Scheduling / Planning

We’ll be looking at the budget once a week and each time we look at it there is a specific purpose and goal. Choose a day and time that’s convenient and add it to your calendar. The idea is to look at your budget about 4 times a month. Ideally we would check the budget around the 7th, 14th, 21st, and 28th, but no one really does that I’m pretty sure. We’ll just assume you choose Sunday night. Before your budget is in place just spend that hour following the steps to get it into place. Once it’s all set up there are specific goals to accomplish each week.

Create a Budget

The first time you create a budget you’ll be guessing at what you think your monthly expenses will be. It doesn’t really matter though, because you’ll be adjusting it every month anyway. Create a category (envelope) for everything you spend money on. For example, Groceries, Eating out, Water, Electricity, Paying off Credit Cards, Car maintenance, Cell phones, Internet service, TV, Clothes, Vacations, Presents, etc. Also add one category for Emergencies and add one for Unexpected Expenses.

Within the categories you’ve created there are at least three different types of expenses: monthly, yearly, and savings. “Groceries” and “Internet” service are monthly. “Taxes” are yearly. Examples of savings categories are “New Electronics”, “Clothes,” or “Vacations.” Purchases in these categories are irregular so you’ll want to add a little money into them each month so that you don’t have to make a large purchase in the future.

Here’s an example budget.

Category Budget Amount
Kids Entertainment $150
Dates $150
Eating out $130
His Personal Money $40
Her Personal Money $40
Rent $900
Electric/Gas/Water $60
Household Items $50
Cell Phones $85
Cable/Internet $40
Groceries $800
Gas $200
Vehicles / Cars $200
Parking $30
Toll Roads $100
Bus / Carpool $50
Clothes for Kids $50
Clothes for Adults $50
Vacations $100
Gifts / Presents $50
Emergency $150
Second Honey Moon $100
Bank Fees $10
Medical $100
Government / Taxes $60
Insurance $100
Credit Card Debt $100

When choosing the amounts to put into each category for the first time, you can be as detailed as you like, or not. You can just guess at what you think it should be, you can go through all of your credit card statements for the last two years and figure out what you’ve spent in the past, or do something in between. Do whatever makes you feel good. When I did it I guessed as best I could and I looked at some credit card statements. Of course I missed some things.

Required Categories

An “Emergencies” category (envelope) is required and should get at least $100 per month. It’s for when something breaks unexpectedly and needs to be corrected urgently (like a car or a washing machine).

An “Unexpected Expenses” category is required and should get at least $100 per month. When you first create a budget you will inevitably forget something and you will go over on some categories. This is to cover those things. As time goes on and you become more familiar with your budget you may be able to phase this out if you want. Probably after about 6 months to a year of budgeting you’ll be familiar enough with how you spend to be able to remove this category entirely. At that point you can cover overages in categories with underspending in other categories. When you’re first getting started you may need more than $100 per month here.

Keeping Track – The App

Download the Android or iPhone App (and use it). The app allows you to enter every expense in your phone whenever you make a purchase. It serves multiple purposes.

  • It makes you more aware of every purchase you make.
  • It gives a human readable name to the store where you made the purchase (instead of something like Store KSCG #5232).
  • It tracks your cash.

If you don’t have a smartphone then good for you! You’ll need to save all of your receipts or write down each of your purchases on a piece of paper that you carry with you at all times.

Keeping Track – Cash In YNAB

Cash is a huge, huge pain because it just shows up as a withdrawal in YNAB. Officially YNAB suggests avoiding it as much as possible. I agree. Use your debit card instead. When it can’t be avoided, there are other options. Do what works for you!

You can create a category for cash or a special account just for cash. If you have a category for cash then you have to make sure that when you spend cash you add it to the correct category (not cash) and then go into the cash category and remove/lower the amount that you spent. Otherwise you won’t be able to do any reporting on the cash that you spend.

With a separate account in YNAB for cash, every cash withdrawal from your checking account becomes a transfer into your cash account. Then when you spend your cash you always spend from the cash account instead of from the checking account. This is the way to do it so that every penny is accounted for. It’s a bit cumbersome though as it requires a bit more effort.

What I do is delete every cash withdrawal out of my YNAB account whenever one appears. This has the undesirable consequence that the amount shown in the account doesn’t match the amount in your bank account anymore, because I just up and deleted one of the transactions! In YNAB it will appear that I have more money than I actually do. You can reconcile the account to fix this. This also means that I have to make sure that every time I spend cash I absolutely always have to enter the expense into YNAB (via the app or otherwise) manually.

When you use a debit card, you can get away with forgetting to enter things, because there will be a record of it on your card, but when using cash there is no such thing. If you forget with cash, then your money magically disappears to fairy land!

Keeping Track – Split Payments

Say you go to a “Super Store” where they sell food, clothing, and flying horses all under one roof. You’ll want to put the amount you spent on food in your Groceries category and the amount spent on clothing in your Clothing category. Here’s how.

In the phone app, when you choose a category, click the split icon at the top right of the screen. Then choose the categories and the amounts that you like. 

In the web app, click on the account that you spent from under “All Accounts,” click “Add a transaction,” and click the big blue “Split (Multiple Categories)” button. Then choose the categories and the amounts that you like. 

Here’s a video explanation of how to split transactions.

Reconciling Overtures

At the end of the month you’ll have spent more than expected in some categories and (hopefully) less than expected in others. No problem! Take some money from one category (envelope) and move it to the one that was overdrawn. The easiest way is to click the overdrawn amount – YNAB will ask you which category (envelope) you want to use to cover the missing funds. You can also adjust the budget amount for the two categories manually.

So if you went over your pizza budget by $50 and you didn’t spend as much as you thought on gas by $100, you can move the extra gas money over to your pizza budget to make it work.

Here’s a video explanation on how to reconcile overtures at the end of a month.

Weekly Budgeting Goals

As mentioned before we’ll be looking at the budget about 4 times a month. Assuming you chose Sunday night, here’s what needs to be done each time you go over the budget.

First Sunday (3rd of the month or later)

  • Make sure you’ve entered all of your expenses for this month and the previous – there’s nothing to do if you’ve been using the app, otherwise use the piece of paper where you’ve been keeping track or use your saved receipts.
  • Import transactions from your bank and assign categories (skip this if you’ve linked all of your bank and credit card accounts).
  • Reconcile any overages you have in any categories from the previous month.
    • Note: This needs to be done on the 3rd of the month or later to make sure all card purchases from the previous month will show up in your bank account!

Second Sunday

  • See if you’re still on track with the amount that you’re spending in each category and the amount that you thought you’d spend.
  • Make sure you’ve entered all of your expenses for this month and the previous – there’s nothing to do if you’ve been using the app, otherwise use the piece of paper where you’ve been keeping track or use your saved receipts.
  • Import transactions from your bank and assign categories (skip this if you’ve linked all of your bank and credit card accounts).

Third Sunday

  • (Same as the second Sunday, plus …)
  • Create the budget for the upcoming month. Assign amounts to categories and decide what you think you’ll spend.

Fourth Sunday

  • (Same as the second Sunday, plus …)
  • Verify the budget for the upcoming month. Assign amounts to categories and decide what you think you’ll spend.
  • Reconcile any overages you have on all categories.

You’re Done When

You’ll know you’re done when you can check off all of the following items.

  • You know what all of your monthly expenses are.
  • You have assigned each dollar to a category for spending or saving.
  • You have scheduled time once a week to review your current budget (balance it) and to prepare next month’s budget.
  • You have a system in place for tracking every new expense (an app or a piece of paper).
  • Your budget includes an “Emergency” category that has at least $100 going into it monthly.
  • Your budget includes an “Unexpected Expenses” category that has at least $100 going into it monthly. (Phase this out over 4 to 6 months if you like.)

Of course, keeping a budget is an ongoing activity. Later when you’re a millionaire you’ll want to spend more time tracking your expenses (because you’ll have more to track).

What It Feels Like (And Other Notes)

Before I had a budget I thought following one would be limiting and bothersome. In fact, it was the exact opposite. Without a budget, whenever an unexpected expense came up I always thought, “Crap, will I be able to cover that or not?” Whenever I wanted to buy a fancy new thing (phone, TV, car, etc., aka useless junk), I didn’t know if I could just buy it or not, because I didn’t know how much money I had nor how much I would need in the future to cover irregular (non-monthly) expenses.

Now that I do have a budget, I know I can handle unexpected expenses because I have a category for that. I know exactly how much money I have and whether I can afford a fancy new cell phone or not. In fact, following a budget is more freeing than limiting because I worry less than I did before. I can’t stress this enough – not worrying about money is awesome. It’s one of the main benefits of being wealthy and you don’t even have to be super-wealthy to enjoy it.

When you first start tracking your expenses and using categories it can seem difficult and a pain. It’s something new, so that’s normal! Once you’ve had some practice and get into a rhythm it becomes easy. Luckily, it doesn’t take years to master, only months.

There are a fair number of objective benefits of budgeting. One of them is being able to easily verify that all of the expenses on your cards are correct. Another is that it makes you more aware of where your money is going. It’s important to know where it’s going if you want to have goals for getting out of debt, saving, or investing. It would be hard to know how much you could invest if you didn’t know how much you were spending. This is why this step is a necessary requirement for the upcoming steps.

Another fun tidbit is the fact that most millionaires follow a budget, so doing so yourself is a move in the right direction. (See The Millionaire Next Door)

There are also lots of subjective benefits of budgeting besides the objective ones. If you’ve never tracked every expense before, the first time you do it can be eye-opening. You may be surprised at how much money goes to lattes, or gas, or credit cards. If you are surprised, great! That feeling you have should make it easier for you to make choices about where you spend.

The main subjective benefit you may get from budgeting is being able to spend some personal time thinking about what’s important in your life. With a completed budget in front of you at the end of the month, it’s easy to ask yourself some questions. Like “Am I really happy spending that much eating lunch out every day? Or maybe it’s more important for me to take a vacation to Iceland and I could take my lunch for a while to be able to afford it.” Or maybe it will be more important to pay off your debts or invest. It’s not just about trade offs though – it’s also about every item we buy. The new crockpot or rice cooker that we decided to buy, for example. For every purchase we can ask ourselves

  • Will I use it regularly?
  • Do I want to store it?
  • Do I want to clean or maintain it?
  • How long will it last?
  • Do I already have something that will accomplish the same thing?
  • How many times will I use it (can I borrow it)?
  • Can I find a cheaper price or an alternative?
  • Do I need to buy this new, or can I buy a used one?

For more specific questions, see

All of these questions are for you, of course! Buy whatever you want if you’re happy with it. A budget isn’t about restricting yourself, it’s about knowing where your money goes so you can maximize your happiness.

Notes On The Anti-Budget

Some folks will tell you budgeting is a bad word and that it won’t work. Counting your dollars isn’t for everybody, but for most it’s an absolute necessity. The “anti-budget” works like this: You skip formal budgeting, set up automatic payments and transfers for all of your bills and all of your savings goals, then you spend the rest however you feel like it. This is great if that works for you! Then you would theoretically spend less time each month counting your money. There are a number of problems with this though.

  • What if you spend all of your extra money by the 10th of the month and then end up having to use credit cards for groceries?
  • How do you plan for larger expenses and save for them little by little?
  • It completely destroys the main benefit of budgeting – becoming aware of how you spend.

In my opinion, the anti-budget can never work for people that don’t already have enough money. Even if you decide exactly how much money to spend on entertainment each month, open a separate checking account for that money, order a debit card with no overdraft for the account, and then only buy non-essentials using that debit card, I don’t see it working. In my opinion this sidesteps the issue (your spending) and avoids managing your money. This idea will not work for the upcoming steps in this guide – you do need a budget.

Budget Questions

How Do I Make Large Purchases?

So how do you make large purchases and still stay out of debt? Once you’re an expert budgeter you’ll be able to guess this answer. If you need a new car, for example, you will get a better deal by paying all cash. Besides the lower price from the dealer, you won’t have to pay ridiculous finance charges. Do your research, call around for the best price, and put money into your “New Purchases” category or into your “New Car” category regularly. Once you have enough in the category to pay all cash for the purchase, then buy it. Also, please buy used. New cars are for suckas. And that’s all there is to buying a new car without accruing more debt. The same advice stands for other new purchases.

Continue Your Journey

Make me happy by leaving feedback using the form below and you’ll be sent to Step 3 when you’re done! Or continue to Step 3 without leaving feedback :(.

Login with your Social Account (optional)
Had you heard about YNAB before reading this?
What day and time did you schedule each week for spending quality time with your finances?
What did you like about this page? What did you dislike? Was everything clear? Where can improvements be made?
I feel motivated to get out of debt.
I am committed to completing this guide.