Agree a Budget: Estimations, Priorities and Financial Resources, and the Purpose and Benefits of Budgeting
This article is written based on the NVQ Unit “Agree a Budget.” This is a level 3 unit with a credit value of 4.
There are two parts in this unit; the first part is assessed based on knowledge and understanding, personal statements, questioning, discussions and other evidences. The second part is assessed based on evidences through various procedures.
What It Means to Agree a Budget
If you have some quantified objectives that you need to achieve, or you know you need to cope with critical situations that may arise at any time, you will need a plan. You will need to plan your savings, income and expenditures, and this applies to both personal goals and business goals. In short, you will need to “agree a budget.”
What Is a Budget?
A budget is a financial document that plans future saving, spending, incomes and expenditures. A budget can be planned by individuals or by businesses or organisations so that they forecast whether they can operate with their planned income and expenses. The budget will also give an idea of how the business will perform over the next financial year.
Many Types of Budgets
There can be many different types of budgets based on the situation or part of the business in question and also the financial figures available.
- When insufficient financial figures are available, a budget is prepared based on estimates from the previous year and this is called a Forecast Budget.
- A budget that is based on how much cash will be spent in the next financial year is called a Cash Budget.
- If costs are calculated for starting a new business, including costs of all assets required to start the business, then it is called a Business Start-up Budget.
- And there are Performance Budgets that are based on services or projects where budgets are created by assessing each individual item.
- An estimate of the future sales of a company is called a Sales Budget.
There are many more types of budgets, all depending on the purpose, goals and other factors involved.
Why Is It Important to Create a Budget?
Planning with a budget will give you a clear view of how much money will be coming in and how much you will be spending. So before you actually spend on something, you can decide whether or not it will have an effect on the finances for that year. You can prioritise, achieve goals, decrease unwanted expenses and manage money efficiently. Creating a budget will relieve you of stress and doubts, because you already know what you have and what to expect.
Skills and Processes Needed to Develop a Budget
There are various processes that one needs to know and understand before developing and agreeing a budget. Some of them are discussed below:
- How to use estimations when developing a draft budget (section 1.1)
- How to identify priorities and financial resources needed when preparing a budget (section 1.2)
- The purpose and benefits of identifying priorities when preparing a budget (section 1.3)
- The purpose and benefits of evaluating and justifying estimated costs and income (section 1.4)
Understand How to Develop Budgets
Developing a budget has various stages and various factors need to be considered too. A draft budget is created that has proposals for the expenditures and investments for the mentioned budget period.
Explain How to Use Estimations when Developing a Draft Budget (Section 1.1)
When developing a draft budget, one takes into consideration the previous financial years’ budget, income statements, and the cash flow for the business. When projecting income and expenses, be very cautious and conservative and always use the correct and definite actual figures if you have them in hand. Also be ready to manage variations in the estimated values of the budget.
Note: Where you don’t have actual figures, when estimating expenses, estimate the highest possible, for example the highest utility bill; when estimating income, guess a low value, for example take a value that brought in least income for a service.
When using estimations for developing a draft budget, prepare a list of all the resources that you will need to develop the budget. Gather all the resources and then finally put them together to develop the budget. You will need to prepare this before the start of the financial (fiscal) year.
The important facts to adhere to when following the above process are:
- You need to create a list of all the expenses. Categorise the expenses separately and draw a list. For example, office stationery, equipment, salaries, and insurance. Prepare an estimated expense list and use the previous year’s expenses for reference.
- Look for any restrictions, like maximum or minimum spend amount, or period of times allocated for certain tasks and projects, and take these into account.
- The next step is to create a list of all the incomes. Categorise as above and prepare a list of all the sources through which you will have an income and the estimated amount for each. For example, income from services provided, products delivered, external funding, tax, sales, or any fundraising events.
- Create a link between income and expenses. You have a list of both incomes and expenses. Figure out the source of income that will help with an expense and create an interactive outline.
- It is best to take advice from experienced and skilled people while preparing the budget as not everyone is skilled in developing a budget by themselves, especially in large organisations or companies.
- While you have a list of expenses, develop a prioritised list taking into consideration what expenses contribute to the development of the organisation or to achieve a specific goal. Write down the estimated expenses for each prioritised task (consider all expenses like staffing, salary, transport, resources, utility bills and any other associated expenses).
- Do not assume there will be a tight fit between the income and expenses. Unexpected expenses may arise anytime, and hence it is wise to have money set aside for miscellaneous expenses.
- Make a list of things you would like to implement for the first time in the new fiscal year; for example, a pay rise, or office space extension or refurbishment. Create a list of estimated expenses for these things.
- The best way to list all the above data is to use a spreadsheet with income and expenses listed along with sources. If the projected values of income and expenses are approximately equal then the budget is called a balanced budget. If your expenses are lower than income, then you have a surplus and you can look to see if anything can be done with it to improve the business or organisation. If expenses are higher than income, there will be a deficit, and the organisation will have to look at ways of cutting down expenses; for example, cutting down on utility bills and stationery, or looking for fundraising events or donations.
Note: As you gain experience developing budgets, drafting budgets for the forthcoming years will become easier. You will know where to look for information and resources and how to identify priorities.
Explain How to Identify Priorities and Financial Resources Needed When Preparing a Budget (Section 1.2)
To keep a business on track, the priorities need to be correctly identified (priority driven budgeting) and the finances well planned and managed.
The logic behind priority-driven budgeting is that financial resources must be allocated to budget items—for example services or projects—based on the effectiveness this budget item has in achieving the goals and objectives that are of high value for the organisation. So items on the budget are ranked based on the above facts and funding is allocated accordingly.
We now need to look at ways of identifying the priorities and financial resources.
How Can Someone Identify Priorities?
You need skills, experience, logical thinking and a good knowledge of how the organisation works or operates. If you drafted the previous year’s budget, then you will have an idea of how you identified these factors and this will make the task easier for you. Prioritised items are services that offer the highest value for the organisation or company.
Some Ways You Can Identify Prorities When Developing a Budget
- If you drafted budgets in previous year(s), use those lists of projected incomes and expenses as the basis. Use the company's or organisation’s recent financial statement for sales and profit figures. There may be minor changes or fluctuations in certain figures and priorities would have changed too. Take a note of all these changes and take into account all of the above factors while drafting the budget.
- When prioritising items on the budget, look thoroughly into each item and its importance for the organisation. Investigate on the areas this item will have an impact on and list the departments dependent on this; for example, improving IT services, improved technologies, cut costs, workplace productivity, etc. Ask the right people for information and ideas—for example senior staff or managers, depending on the organisation—and arrive at the decision to make an item a priority.
- Look for fundamental purposes for which the organisation runs, for example, well-being of the community, supporting healthy living, providing quality services for older people or providing quality home products at reasonable prices. Create a strategic plan to identify the priorities.
- You can conduct surveys, meetings, or focus groups, including with the public, to arrive at decisions on making a service a priority.
Once a logical decision is made on the priority list, we need to allocate resources for these things. In order to do this, we need to identify the financial resources.
Ways to Identify the Financial Resources Needed When Preparing a Budget
Resources will be required for ongoing expenditures, short term expenditures, and one-off expenses.
- Go through the priority list for expenses that you have. You can refer to the previous year’s resource allocation pattern and follow that, or make changes if a more practical and beneficial alternative is available. One item may require more funding over another, just because it is on a higher priority level. Some services may have joint funding.
- Look at each expense and draw an outline of all that depends on that particular expense; for example, the departments, the service areas, and the areas of operation. Investigate the effects the budget has on these areas of operation and using this information, draw up a prioritised list. Refer to previous financial statements. Find out the benefits of spending on these areas while considering them a priority.
- Check to see if there are sufficient resources for all items that are a definite priority, and if there is a shortage, you can look for sponsors, arrange events to raise money, or work with partnership organisations to reduce or share expenses.
Note: Depending on the organisation or company you work for, its size and the way it operates, you may need one overall budget or many individual budgets for different operations.
Explain the Purpose and Benefits of Identifying Priorities When Preparing a Budget (Section 1.3)
Knowing how to identify the priorities for developing a budget has many benefits too.
The purposea and benefits of identifying priorities when preparing a budget are:
- A budget helps you to manage the available money in a very effective manner.
- Identifying the priorities and the resources available will help one to allocate appropriate resources to relevant or prioritised projects.
- Once you have a well-planned budget in place, you can effectively monitor the performance of the organisation to see if the goals and objectives have been met. Any error that has occurred in the budget decisions or any weak/low performance in business due to ineffective budgeting can be used to improve the decision making process in the future.
- You are able to plan the future goals, objectives and performance of the organisation.
- Effective identification of priorities will help you to set up future budgets more accurately.
- You will have a clear idea of when to take necessary actions if anything goes out of plan.
- You will be able to identify problems even before they occur as you will be monitoring the budget: for example, emergency financial needs or issues with cash flow.
- Proper budgeting according to priorities will aid smooth functioning of the organisation and will increase staff motivation.
Explain the Purpose and Benefits of Evaluating and Justifying Estimated Costs and Income (Section 1.4)
After identifying the priorities and resources for the budget items, you need to set aside costs for each item on the budget. In order to do this efficiently, you need to investigate and evaluate the amount that is required for each item on the budget. A cost-benefit analysis is done in this process.
- You are able to evaluate if any budget item is consistent with the principles governing the operation of the organisation.
- You can work out if the benefits of an action will exceed the costs or if productivity will increase as a result of the budget.
- You will be able to identify if there are needs for extra budgetary funds, if the reason is appropriate or if they are legitimate.
- You can avoid last-minute changes, or revise upcoming budget plans and be ready to face them.
- You can identify areas that may require additional spending, for example projects that may come up with any additional expenses, and be prepared
- You can be sure that the estimates are realistic and accurate and implement them without worrying.
- You can cut down costs or avoid costs while evaluating if you find that the expense is not a requirement or a need.
- You will be able to decide easily if contracts (handing over a project to contracted agencies) will be more cost-effective than the organisation directly working on a project.
I hope you find the information here useful. Please do not hesitate to leave your suggestions, experiences and ideas in the comments section below.
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This article is accurate and true to the best of the author’s knowledge. Content is for informational or entertainment purposes only and does not substitute for personal counsel or professional advice in business, financial, legal, or technical matters.