As I alluded to in my last post, creating a budget – and sticking to it – is one of the most important first steps you can take. Many people seem to shy away from this, either because it seems too time-consuming, boring, or they’re overwhelmed by where to start. Today, I will outline why you should be using the modern envelope system to allocate your money.
The Envelope System
The envelope system is used by allocating every dollar you have already earned into specific categories (or envelopes) for them to be used (or saved) until the next paycheck. How much you put, and where, doesn’t matter so long as you’re only budgeting money you already have (not hoping to have at a later point).
In the days of yore, this used to mean physically putting cash into envelopes marked “Rent”, “Groceries”, etc. and then when the envelope was empty not spending from that category until you replenished it with the next paycheck.
Thankfully, there are plenty of viable digital “envelopes” to do the same thing. They also make it a breeze to re-allocate funds into different categories as necessary too (if one gets overspent just move funds from another). This is important because life happens and we need to be prepared to go with it. No budget is ever perfect, which makes it a living document you can add, edit, and delete from at will. If we could guess what would happen next week life would be amazingly dull. Thankfully we can’t, so don’t get down if you spend in categories you weren’t expecting to. Prepare for the unexpected and it won’t be so bad when it hits.
Keeping Track (Apps or Spreadsheets?)
Keeping track all comes down to preference. This is a heated topic in the personal finance community as people swear up and down their way is the only way to do it. Experiment with different apps or spreadsheets to find what works best for you. I believed spreadsheets were the only way to go for a long time, and now I find myself obsessed with YNAB (more on that in a later article). It doesn’t matter as long as it gets you to keep using it.
Some alternatives to YNAB include:
Please note that I have not used any of these alternatives but would love to hear about your experience! Let me know your thoughts if you try one.
Getting started with YNAB
Because I use and enjoy YNAB, here are some resources to help you learn about what makes it great, how to get started, and the best trial deals I know of. I receive no kickback of any kind for recommending them.
Resources to get you started:
A note on “budgeting” trackers like Mint.com
This is where I’m going to swear up and down that you should not be using Mint.com to budget. Again for effect, DO NOT USE MINT.COM TO BUDGET. All of the garbage that it tries to push on people aside, I personally think it is still an awful budgeting product. Any budget that wants you to allocate money you have not earned yet is merely a forecasting tool.
Forecasting future spend is important, but it’s more of a sidekick character. A “what-if” scenario. You are guessing what you’ll make, how you’ll spend it, and most likely not tracking it all efficiently.
It’s nice to think about and plan for but not the most effective way of doing this. When you budget with money you already have it’s far more impactful because any category you allocate to is funded right then and there. Budgeting should only be done with money you already have – not hope to have in the future. You can’t spend what you don’t have.
I’d be remiss if I failed to mention the two other popular methods that get thrown around a lot; the percentage system and reverse budgeting. I have used all three at one time or another and find the envelope system to be the more powerful of the three. To be thorough, here are the other two:
- Percentage System: Breaking down your budget by percentages (ex. 50% needs, 30% wants, 20% debt / savings / investing).
- Reverse Budgeting: Creating your budget around a specific goal (such as paying $X amount on a car). With that payment funded you’d then allocate towards fixed and variable expenses. Any remainder would be a pot you could draw from towards spontaneous expenses.
The problem with both of these is that they don’t require you to be intentional with every dollar or track spending efficiently.
Have Fun With It
A budget is not meant to be a stuffy document that makes you feel trapped. If this is the case, analyze it and see what changes can be made to give you more freedom. Once you know where your money is going you can stop spending in areas that aren’t adding value to your life – and reallocate to those that are. If money is still tight after doing this then start thinking about what you can do to bring in more income.
You either spend less or earn more. Going into debt is not an option. Join me next time as I discuss how to use your income and expenses to actually put the budget together.
Continue to Part 3 – Creating the Budget.