“Annual income twenty pounds, annual expenditure nineteen pounds nineteen and six, result happiness. Annual income twenty pounds, annual expenditure twenty pounds ought and six, result misery.” (Mr. Micawber, in David Copperfield by Charles Dickens – 1850)

You already know this secret, really.

But maybe you don’t like to think about it.

If you’re trying to improve your financial situation, you need to either:

• Spend less
• Earn more

Even in the post-credit-crunch world, it’s all too easy for us to put items on a credit card. It’s all too easy to run up thousands of dollars of debt – with our spending constantly outstripping our earning.

I know how it feels. At times in my life, I’ve carried on spending and spending, hoping, like Mr. Micawber, that something will “turn up”. But eventually, I’ve had to cut back hard on my spending – knowing that the quick, temporary thrill of spending isn’t worth the months or years of misery that debt can lead to.

You can buy dozens of books on financial management (and I’m sure you’ll learn a lot along the way) – but ultimately, nothing can really help you unless you end up spending less than you’re earning.

Almost all of us can cut back a bit on our spending – and this is often easier than earning more.

Step 1: Figure Out Your Current Position

Maybe you try not to think too much about your spending – you just carry on, and hope for the best. Or maybe you’re already trying to cut down on what you spend – perhaps by eating out less often, or buying generic products rather than branded ones.

Either way, you’ll find it really helpful to figure out your current position. How much are you spending every month? And how much of that is essential (e.g. rent, electricity) verses non-essential (e.g. TV, broadband connection, gym membership)?

By keeping track of what you spend over a month or so, you’ll almost certainly find a few surprises. The first time I did this, I was really shocked by how much I could spend in a (quite sedate!) afternoon and evening out. Little costs – coffees, sandwiches, drinks – can really add up fast.

Step #2: Work Out What to Cut Back On

Once you’ve been tracking your spending for a month, start going through this list. Cut out things one by one until your spending is less than your monthly income:

• Anything which you didn’t need to buy and didn’t really want to buy. Can you cut this out altogether?
• Anything which you wanted but which didn’t really bring you all that much pleasure. Was it really worth $39.99 for that new computer game that you’ve barely played?
• Anything expensive which you needed but which you could cut back on. If your rent is really high, could you move? If you spent $200 on clothes, could you get something just as functional for $50?

I wouldn’t recommend trying to cut out everything but the bare essentials – there’s nothing wrong with spending money on things which you enjoy. The trick is to stick to a few purchases which you really want, rather than chucking cash away on stuff which doesn’t matter to you.

Step #3: Create a Budget

I don’t believe that a budget needs to be fiddly or complicated. All you need to do is work out what you should be spending in different categories. Some costs will be fixed (e.g. rent, and some bills) – others will fluctuate.

You might want to use an envelope system: take out cash each week for your variable costs, and divide it into envelopes for:

• Groceries
• Household supplies
• Entertainment / eating out

…and so on.

You can only spend the money in that envelope – leave your cards at home. You can carry money over to the next week (or month) or even transfer it between envelopes – but you can’t go over your total budget limit.

Step #4: Take Care of the Money You Save

If you’re in debt, you can put your savings towards paying it off. It’s also worth considering an emergency fund – sudden, unexpected expenses do crop up from time to time, often at the worst possible moment. If you’ve got $500 or $1,000 tucked away in the bank, you can cope with emergencies without having to rely on credit.

If you’re not in debt and have a healthy emergency fund, make sure you put your savings into a safe place, like a separate bank account. There’s not much point keeping a budget and watching your spending if you end up blowing it all at the end of the month.

Remember – the one true secret of financial happiness is spend less than you earn.

How could you start doing that this week? (And if you’re managing your finances well, we’d love to hear your tips in the comments!)