Budgets, like paperwork, bills, and expenses, fall into a class of business terminology that immediately makes my eyes glaze. The problem with that Pavlovian reaction is that budgets are utterly essential for any business owner. They’re the venal network of your financial flows, giving structure to something that would otherwise appear disjointed and emotional. Ignoring the budget is setting yourself up for an array of negative consequences, from stress attacks to business failure.
A study at the Journal of Consumer Research offers an important insight for anyone faced with the task of making a budget:
A new study found that people who made annual budgets were more accurate than those who made monthly ones. Authors Gülden Ülküman (University of Southern California), Manoj Thomas (Cornell University), and Vicki G. Morwitz (New York University) found that, contrary to popular advice, people were more accurate when constructing an annual rather than a monthly budget, even when they were logging their expenses weekly. The researchers believe the annual budgets were more accurate because they were actually more difficult to construct, whereas people tended to be over-confident when preparing monthly budgets.
“Consumers’ default tendency is to underestimate their budgets, for both next month and next year frames,” write the authors. “However budgets for the next year are closer to recorded expenses because consumers feel less confident when estimating these budgets, and therefore, adjust them upward.”
One unusual finding: People who were told that budgeting was difficult estimated more accurately than people who were reassured that it was easy. “Ironically, lack of confidence, in the context of budget estimation, seems to be a virtue,” the authors conclude.
The study’s authors advised creating an annual budget, then dividing it by 12 for the most accurate results.
I’ve become somewhat accustomed to the bipolar financial existence of a freelancer. Some months, you receive euphoria-inducing amounts of money, resulting in purchases of expensive meals and vacations. Other months, the mailman replaces friendly white check envelopes with menacing white bill envelopes. When these dry periods run long enough, I often stop buying anything, but do give beggars more money. It improves relations between us in case I end up joining their ranks. Which hasn’t happened yet, but a person can be paranoid, right?
Would an annual budget still work without a steady income? I’d venture that it would, especially if the revenue estimate was conservative enough to invoke bouts of euphoria from even the smallest sources of income. The annual budget also allows for more flexibility, a crucial ally when unexpected big-ticket expenditures, such as home repairs or health crises, burn through the pages of your checkbook.
To conclude, I’m surprised the study didn’t mention quarterly budgets. Nestled within the more abstract framework of an annual budget, these seem most workable in practical terms. Divide the annual budget by four, and voila, your entire year is more or less defined.
What kind of budget do you think is best?