What Is Personal vs Accounting Variance?
Variance in Relation to Accounting and Personal Budgeting
Exactly what is variance, and how does it relate to both accounting and personal budgeting?
In accounting terms -- which is arguably the most common use of the word -- variance measures the spread between two numbers within a given data set. Let's take a look at how it's calculated:
Step 1: Calculate the difference between each number and the data set's mean. Example: Mean = 10. Numbers = 8 and 14. Difference = -2 and 4, respectively.
Step 2: Square the differences so that the result of Step 2 is a positive number.
Step 3: Divide the sum of the squares by the number of values within the set.
Not to confuse matters, but variance is also a personal budgeting definition, so let's take a look at variance as it relates to personal budgeting.
Variance is the discrepancy between the projected amount that you'll spend within a category versus the actual amount. For example, if you think you'll spend $400 on groceries but you only spent $350 on groceries, you have a variance of $50.
In our budgeting worksheets, we ask you to fill out the estimated amount you plan on spending on items like clothing, car repairs and holiday gifts. Then we tell you to wait one month before you fill out the following column labeled "actual."
In the next column, we ask you to fill out the actual amount you spent on these items. The difference between your estimated total and your actual total is your variance. Variance can be either positive or negative depending on whether you spent more or less than projected.
The formula is simple: Actual Spending versus Planned Spending = Variance.
Some people and businesses like to calculate their variance percentage. If you planned on spending $80 and you spent $100, you were off by 20 percent. The percentage is calculated based on the actual spending, not the estimated amount. Using this example, $20 is 20 percent of $100, the actual amount spent.
Having some variance is normal so don't beat yourself up if you experience variance every month. Your goal is not to avoid variance completely -- that's almost impossible. Your goal is to minimize your variance by making more accurate estimates about your spending patterns. It is something that only comes with practice.
The bottom line is, the more accurately you estimate your spending, the less likely you are to go over-budget and wind up with a shortfall accidentally.