Benefits of Budgeting by the Year, Not Month

Lower confidence in annual projections generates better results.

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When you make your budget, do you think in terms of the next month, or the next year?

Research suggests planning for the long-term will increase the accuracy of your budget, despite the fact that many financial counselors recommend a monthly approach. Budgeting for the year is better largely because we feel less confident in our estimates, so add more of a buffer for unexpected expenses, according to University of Southern California's Gulden Ulkumen, Cornell's Manoj Thomas, and New York University's Vicki Morwitz. In the researchers' study, college students estimated that they would spend $430 over the next month, when their diaries suggested they would actually spend $604 -- that means they were 40 percent off their mark. That kind of error could easily ruin plans to save money or stay out of debt. When estimating expenses for the next year, on the other hand, they overestimated their spending by 3 percent.

The researchers point out that while some expenses, such as utilities, are easy to predict on a monthly basis, others, such as holiday spending or annual vacations, are not. It's easier to multiply those monthly expenses by 12, and then to add in the other kinds of costs, than it is to spread our once-a-year costs over each month or remember to include the expense in the appropriate month.

How do you budget -- by the year or by the month? Do you find advantages in your system?