True story: On graduation day, Alice tells her dad that they need to quickly stop by the Tuition Office before going to the graduation ceremony. Once they arrive at the office, her unsuspecting father is told that Alice has an outstanding balance of over $2000 and won’t be allowed to graduate unless it’s paid in full on the spot.

Begrudgingly, her dad pays the bill. Frustrated, he asks her why she hadn’t managed her money better and paid the bill.

Alice remarks, “I don’t know how this happend. I kept a perfect budget all four years and I can tell you where every penny went.”

Her dad responds, “That’s not budgeting. That’s accounting.”

So what’s the difference between accounting and budgeting?

The distinction may be subtle, but is very important.

• Accounting is keeping a record of everything you’ve earned and spent.
• Budgeting is setting limits and keeping to those limits.

Budgeting is a very proactive activity. Budgeting is taking the time to decide in advance how you are going to spend your money and how you are not going to spend your money. A good budgeter will rarely end up in bankruptcy. A good accountant can still end up in bankruptcy because accounting focuses on the past instead of the future. Accounting just tells you what you did instead of planning for what you are going to do.

Have I made my point clear? I hope so.

Now, let’s talk about a couple of basic tips for good budgeting.

#1: Start with a budget of how you are currently spending money, then tweak

A common pitfall is to create a budget that is completely unrealistic. So your first draft should just document how much money you currently earn and where you are spending your money. With that outline as a base, start making changes and tweaks. For example, here’s a real basic first draft just writing down what I’m currently spending:

• Income after taxes: $2500
• Mortgage: $900
• Groceries: $700
• Gas: $100
• Cable/Internet: $100
• Utilities: $125
• Credit Card Payment: $75
• Dining Out: $200
• Cell Phone: $150
• Clothing: $200
• Other: $50

If you add all of that up, you’ll find that I’m spending $100 more each month than I bring home. No wonder, my credit card balance keeps climbing. Now, here’s a revised budget based on that first draft (with the changes highlighted).

• Income after taxes: $2500
• Mortgage: $900
• Groceries: $500
• Gas: $100
• Cable/Internet: $100
• Utilities: $125
• Credit Card Payment: $375
• Dining Out: $100
• Cell Phone: $150
• Clothing: $100
• Other: $50

Just by controlling how much I’m spending on food and clothes, I am able to put another $300 each month towards paying off the credit card! What’s really cool is that as soon as the credit card is paid off, that’s $375 a month ($4500 a year) towards savings. That’s almost a fully funded Roth IRA.

#2: Simplify your budgeting by using a tool (I like online tools)

Creating a budget and then tracking just how well you keep to your budget can be a time consuming task. So make your life easier by using some type of tool. Here’s a list of options.

• Microsoft Excel provides a real basic way of tracking your spending. But requires you to enter all of your transactions and can be very manual. If you are interested in Excel, you can download some budget templates on Microsoft’s website.
• Intuit’s Mint.com is probably the most popular online tool. You can create budgets and sync your bank accounts so that Mint automatically updates your budget. You will have to “teach” Mint how to categorize your spending. But that’s pretty simple. For more info, check out this review of Mint.com. Or visit Mint.com, which is free.
• PocketSmith is another online tool that features cash flow forecasting. Basically, they guess how much money you’ll have for the next 6-12 months based on your budgets. PocketSmith’s big thing is that they are calendar based. The basic plan is free with options to upgrade for either $5 or $12 a month. Visit PocketSmith.com.
• Your bank may have a budgeting tool. For example, USAA.com offers budgeting for its members through its online site.

I’ve outlined just four options. Though, there are lots of tools out there. So do some research and find a solution that works for you.

#3: Only use cash if you need extra control

Okay, so this tip really could go on the prior point of using a tool, but I think it warrants its very own section. There is a very old school method of budgeting, that Dave Ramsey advocates, called envelopes. Basically, after each paycheck, you divide your money up into envelopes marked Groceries, Mortgage, Clothes, Gas, etc. You then carry those envelopes around and only spend the money in the envelopes.

For example, if I have $50 in my Dining Out envelope, then I can’t spend more than $50. Once the money is gone, I’m done spending money. The concept of not spending money that you already have is becoming, unfortunately, a foreign concept in today’s world of easy consumer credit.

So if you know that you have a problem with overspending, then use this simple system to get it under control.

#4: Have a Blow Money category

Let’s all just be honest and acknowledge that you are not perfect and will probably buy something you shouldn’t have. The thing is, it’s not a mistake if you plan for it. Give yourself a small allowance of discretionary money. Meaning, money that you can just blow on whatever you want.

If you are just starting out, then your Blow Money category may only be $20. As you remove debt and increase your savings, then you can increase your discretionary or blow money.

If you have any tips that have helped you budget, then please let us know in the comments. Also, follow Rabbit Funds on Twitter if you haven’t already.

In the first part of 6 Steps to starting a home business, I wrote about generating ideas, selecting your legal and taxable business structure, and creating a legal, taxable business entity. In this second part, I’ll cover the next three important steps.

Step 4: Setting up bank accounts

It’s extremely important to keep you personal and business bank accounts separate. Besides easier accounting, it helps protest your personal assets in the event of a lawsuit. Often in lawsuits, the person suing will try to “pierce the corporate veil.” What that means is that they’ll try to prove that you should be personal held liable. If they are able to get to your personal assets, then that completely defeats one of the prime reasons for setting up a Limited Liability Company (which is designed to protect your personal assets).

So how do your bank accounts affect whether or not someone can pierce the corporate veil? If you deposit the business’ money directly into your personal account or make personal purchases from your business account, then you have “co-mingled” funds. Meaning, you have blurred the line between what is personal and business. The person or company suing will claim that since you blurred the line, the business entity is invalid and you should be held personally responsible.

Do not make this mistake. You should always keep your personal funds/purchases separate from your business funds/purchases. Speak with an accountant or tax attorney more about this.

To find a good bank, I recommend starting with the bank where you do your personal banking. If you like them for your personal accounts, then you will probably like them for your business accounts as well. Make sure to review all of the fees as many business checking and savings accounts carry fees that personal accounts don’t have.

Step 5: Keeping an accurate accounting of all your income and expenses

First, understand that accurate accounting is important. For example, you don’t want to miss the opportunity to write anything off. Second, tax preparation will be much easier and faster if you have good records.

I could write several posts just on accounting for small businesses. But I’m going to just keep it picking some accounting software. Here are a few options to consider.

Quickbooks: If you know a bit about accounting and are comfortable with figuring out a somewhat unintuitive program, then Intuit’s Quickbooks is a leader in accounting software. I personally use it and don’t love it, but it works pretty well. It offers a lot of functionality, though you often have to pay for the additional functionality. Quickbooks has both a desktop (one time purchase but is outdated after one year) and online version (always up-to-date but is a monthly subscription). Also, pretty much every accountant uses Quickbooks. So you can easily send your file to your accountant for taxes or other work.

Outright: If you are looking for something that is 100% online, cheaper than Quickbooks and more intuitive to use, then Outright.com may be a great option for you. It connects to thousands of banks to download your transactions and has a pretty easy to use interface.  The cost is $9.95 per month after a free 30 day trial. Though, the lower price means that you sacrifice some functionality. But, you may consider that an advantage if you don’t love diving into accounting.

AccountEdge: This is for all you Mac users. Although Quickbooks has a Mac edition, it was first and foremost designed for PCs. AccountEdge is premium accounting software designed for small businesses who use Macs. The feature list is pretty impressive. It is desktop software and although comparably priced with Quickbooks, it is actually cheaper since getting the same functionality (such as Payroll) requires paying more to Quickbooks. I strongly recommend considering AccountEdge.

Step 6: Marketing yourself

This is my favorite step. I’m a marketer by trade.

Notice that I titled this “Marketing yourself” and not “Marketing your business.” The number one thing you are selling, especially when starting out, is you – not your product or service. Your product or service is untested and unproven. So customers are buying you, not the product. So very first, be the type of person that you personally want to do business with. Correct all of the customer service issues that drive you insane when dealing with other companies.

If your business can benefit from online marketing (which is pretty much every business), then there is a lot that you can do from free or cheap. Here’s a list of free or cheap marketing resources for small businesses. Though, I specifically recommend checking out Inbound University (not an actual university or school), which teaches online marketing for free, and Hubspot’s Internet Marketing blog. They offer tons of free information about online marketing.

No matter how you decide to market yourself, understand that you need to create a very compelling story about your brand. Being the cheapest or best isn’t good enough anymore because there is always going to be someone cheaper or better just behind you (unless you are Wal-mart). Besides, people are willing to pay a premium for a brand that they feel connected to. Just consider Apple for a moment. Apple products are more expensive than its competitors’ products and yet they are the market leaders. Why? Because people worship love Apple. Here’s a case study about building an awesome, easy to share brand story.

So build a brand that people are willing to pay more for because they feel connected to it on some emotional level. For more info on building brands, read Seth Godin.

Other considerations

These two posts are just a very basic outline on how to get you up and running. A few things not covered here that you need to consider are: what’s your business plan? where is funding going to come from? what’s your exit strategy if things going poorly? what’s your exit strategy if things going really well? what is the demand for your service (really)?

Watch for a post in the coming weeks with some specific businesses that you might want to start. Also, add your thoughts below on what you think are crucial steps in starting a home based business.

Don’t forget to follow Rabbit Funds on Twitter for more articles like this one!

Also, this article was featured in the Carnival of Personal Finance #321.