Ever wondered how the envelope system works? Here's a closer look.
4 Minute ReadTopic: budget
In the movies, when someone goes looking for buried treasure, they’ll carry a map. The map tells them where to go, what to look for, and what to avoid on the way there. And once they reach their destination, they’ll find the good stuff—the gold, silver and jewels.
That’s the zero-based budget in a nutshell. It will keep you on the path to riches, but you must follow it if you are going to find what you are looking for and avoid the pitfalls.
What is a zero-based budget?
The concept of a zero-based budget is simple: income minus outgo equals zero. If you earn $3,000 a month, you want every item that you spend/save/give/invest to all equal $3,000. That way, you know where every one of your dollars is going. Not knowing where the money’s going is what kills a lot of people’s money situations. They just look up one day and they have no money—and no clue about where it went.
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So here’s how you do it.
1. List all your income sources for the month. You can do this the old-fashioned way, with a sheet of paper, or you can use EveryDollar—the best free budgeting tool available. Your income should include paychecks, small-business income, side jobs, residual income, child support and so on. If it’s money that comes into your household’s bank account, write it down and add it up.
2. List (or input into EveryDollar) every single expense you have each month. Rent, food, cable, phones and everything in between gets added to the list. Your expenses vary from one month to the next, which is why you make a new spending plan each month. A gift budget might be high in December and low in April. The car budget might spike in the months when you have to renew the tags and pay insurance. Focus on one month at a time.
3. Subtract your income from your expenses. Ideally, this number should be zero, but it might take some practice. Don’t be shocked or worried if they don’t balance each other out. That just means you’ll need to do something to bring one of the numbers up, the other down, or both. But whichever you do, don’t spend anything that’s not accounted for. If you budget $100 for eating out and you’re already at $95, look on the dollar menu of a fast-food joint for your lunch. Don’t break your plan!
If you spend more than you make, then you need to make some cuts in order to make your income and outgo equal. To reduce expenses, try clipping coupons, cutting back on groceries, or catching a carpool to work. If you want to generate more money, get a second job or sell something.
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Here’s the deal with a zero-based budget: Every Dollar must have a name! That means you must have zero dollars left over. If you fill out every item in your budget and come out $100 ahead (meaning you have nothing for that $100 to do), you haven’t finished your budget. You must assign that remaining $100 to something. Whatever you decide is up to you. But if you give it no name, it will be spent carelessly and you’ll end up scratching your head over that missing $100 you thought you had.
The final thing to remember is that, at first, you’re the boss of the budget. Once it’s made, though, the budget is your boss. But don’t think of it as confining. It actually gives you freedom.
And as a guide, your budget will lead you to the treasure, so stick with it.
Visit EveryDollar.com and start using the easiest online budgeting tool on the planet. And guess what? It’s free!