How to Budget with Commission or Fluctuating Income Sources

How to Budget with Commission or Fluctuating Income Sources

Budgeting with a fluctuating income, such as commission-based earnings, can be challenging but entirely manageable with the right strategies. Unlike salaried workers, those with variable incomes need to navigate financial planning with extra caution and foresight. Below, we'll explore essential tips to help you create a reliable budget and maintain financial stability.

1. Build a Robust Emergency Fund

For those with fluctuating incomes, an emergency fund is not just a safety net—it's a necessity. While the typical recommendation for an emergency fund is 3-6 months of living expenses, individuals with variable incomes should aim for a cushion of at least 6 months, if not more.

Why is this important?

Income Variability: During lean months, you can dip into your emergency fund to cover essential expenses without going into debt.

Unexpected Expenses: Whether it's a medical emergency, car repair, or sudden home maintenance, having a larger fund ensures you can handle surprises without stress.

2. Create a "No Stress" Cash Flow System

A highly effective strategy for managing variable income is to establish a "no stress" cash flow system. This approach smooths out the highs and lows of fluctuating earnings, allowing you to maintain a consistent monthly budget.

Here’s how it works:

High-Interest Savings Account: When you receive a large commission check, deposit it into a high-interest savings account. This allows your money to earn interest while you decide on its allocation.

Monthly Transfers: Set up automatic transfers from this savings account to your checking account to mimic a regular paycheck. Determine a fixed amount that covers your average monthly expenses.

Benefits:

Predictable Income Stream: This method provides a steady, predictable income, reducing the stress associated with income variability.

Financial Discipline: By automatically transferring a fixed amount each month, you avoid the temptation of overspending during high-earning months.

3. Prioritize Essential Expenses

With variable income, it's crucial to differentiate between essential and non-essential expenses. Your budget should prioritize:

Housing Costs: Rent or mortgage payments, utilities, and maintenance.

Food and Groceries: Basic food supplies and household necessities.

Healthcare: Insurance premiums, medications, and regular check-ups.

Transportation: Car payments, fuel, public transportation, and maintenance.

Once these essentials are covered, you can allocate funds to discretionary spending, savings, and investments.

4. Adjust Your Budget Regularly (50/30/20 rule)

Given that your income may fluctuate significantly from month to month, it's important to review and adjust your budget regularly. At the end of each month, take a look at your earnings and expenses, and make necessary adjustments for the upcoming month. Overall we prefer that our clients use the 50/30/20 rule of cashflow which says:

• 50% of your monthly income is spent on fixed/essential expenses
• 30% of your monthly income is spent on flexible/discretionary expenses
• 20% of your monthly income is saved or invested

Steps to Adjust Your Budget:

Track Income and Expenses: Use budgeting apps or spreadsheets to keep a detailed record of your finances.

Evaluate Priorities: Reassess your spending priorities based on your financial situation for the month.

Adjust Savings and Spending: Increase or decrease your savings contributions and discretionary spending based on your earnings.

5. Save During High-Income Periods

During months when you earn more than usual, it's tempting to splurge on luxury items or vacations. However, it’s wiser to save a significant portion of this extra income.

Strategies for Saving:

Automatic Savings: Set up automatic transfers to your savings or investment accounts during high-earning months.

Create Sinking Funds: Allocate money to sinking funds for future large expenses, such as a new car, home renovation, or vacation. This way, you're prepared for big-ticket items without disrupting your monthly budget.

6. Invest Wisely

Investing is a great way to grow your wealth, but it requires a disciplined approach, especially with a fluctuating income.

Key Investment Tips:

Diversify Investments: Spread your investments across various asset classes to mitigate risk.

Regular Contributions: Even if the amounts are small, make regular contributions to your retirement accounts (like a Roth IRA or Solo 401k) and other investment vehicles.

Consult a Financial Advisor: Seek professional advice to tailor an investment strategy that aligns with your financial goals and risk tolerance.

7. Plan for Taxes

Commission-based and fluctuating income can complicate your tax situation. It's essential to plan ahead to avoid unpleasant surprises during tax season.

Tax Planning Tips:

Set Aside Money for Taxes: Regularly set aside a percentage of your income for taxes. Consult with a tax professional to determine the appropriate amount.

Quarterly Payments: If you expect to owe more than $1,000 in taxes, make quarterly estimated tax payments to the IRS.

Keep Detailed Records: Maintain accurate records of all your earnings and deductible expenses to streamline the tax filing process.

Use Safe Harbor Payments: If you are not sure how much you will owe, you can use one of three safe harbor payments to make sure you don’t end up paying late penalties, underpayment penalties, or interest.

• 100% of total taxes paid last year
• 110% of total taxes paid last year (If your AGI was over $150k in 2023 or $75k if you are married and file separately)
• 90% of the amount you will owe in the current year

8. Minimize Debt

Managing debt is crucial when dealing with variable income. High-interest debt, like credit cards, can quickly become overwhelming if not managed properly.

Debt Management Strategies:

Pay Down High-Interest Debt: Focus on paying off high-interest debts first to reduce the overall interest burden.

Avoid New Debt: Be cautious about taking on new debt. If you must, ensure it’s manageable within your fluctuating income.

Consolidate Debt: If you have multiple debts, consider consolidation options to lower your interest rate and simplify payments.

9. Maintain Financial Discipline

Finally, maintaining financial discipline is key to successfully managing a variable income. This involves sticking to your budget, regularly reviewing your financial goals, and making adjustments as needed.

Practical Tips for Financial Discipline:

Regular Financial Reviews: Schedule monthly or quarterly financial check-ups to assess your progress and make necessary adjustments.

Set Financial Goals: Establish short-term and long-term financial goals to stay motivated and focused.

Avoid Impulse Spending: Implement a 24-hour rule for large purchases to prevent impulse spending. Give yourself time to consider if the expense is truly necessary.

Conclusion

Budgeting with a fluctuating income requires a proactive and disciplined approach. By building a larger emergency fund, creating a "no stress" cash flow system, prioritizing essential expenses, adjusting your budget monthly, saving during high-income periods, investing wisely, planning for taxes, minimizing debt, and maintaining financial discipline, you can achieve financial stability and peace of mind. Implement these strategies to turn your variable income into a reliable foundation for your financial future.