The envelope budgeting method is a simple, systematic way of saving money and paying bills. The method helps you set aside what you need for bills while maintaining a personal budget. It is a popular budgeting system and can be implemented with personal finance software as well.
How Envelope Budgeting Works
The envelope budgeting system divides your income into different spending categories—bills, groceries, gas, and so on. Once you've decided how much you should spend on each category, you'll take that amount in cash and place it into an envelope. Then, only spend what's available in that envelope for that category's bills or purchases. The aim is to prevent you from overspending by limiting what is available to spend.
Even if you no longer use cash to pay bills, the principle still works and can be applied using software or other financial technology.
The strength of envelope budgeting is that it forces you to stay in touch with spending habits because once the envelope is empty, you can't spend from that category until the next paycheck replenishes the envelope.
Step 1: Establish Categories and Limits
To use envelope budgeting, first establish spending categories for your budget, and then set spending limits for the categories.
Note
The total amount for the spending categories must not exceed your monthly income.
To understand what categories might be useful for your budget, consider where your money goes. Try to list your common expenditures so you can group them effectively. For example, your categories may include:
- Groceries
- Gas
- Health and grooming
- Clothing
- Dining out
- Household items
- Pet care
- Children's items
Tailor your categories to your specific situation. Make as many categories as you need, but not so many as to be overwhelming.
Don't forget to include irregular expenses, such as taxes, insurance, or gifts, and a savings category.
To discover what a reasonable monthly limit might be for each category, check your recent banking statements or receipts to get an idea of your usual costs. You can use that number or, if you're trying to cut back, use a slightly smaller figure.
Step 2: Label Each Envelope
Using one envelope per spending category, write the name of each category and the monthly budgeted amount on the envelopes.
If you are paid weekly or bimonthly, divide the total monthly amount for each category by the number of pay periods you have in each month, and record that figure on the envelope. That will help you put the right amount from each paycheck into the envelope.
Step 3: Separate Funds
For this example, suppose you receive a paycheck for $500. Cash your paycheck, and put the allocated amount for each budgeted category into the respective envelope. A simple example might be divided like so:
- $100 in the grocery budget envelope
- $200 in the rent budget envelope
- $70 in the gas and auto maintenance budget envelope
- $30 in the utility budget envelope
- $70 in the personal care and clothing envelope
- $30 in the savings budget envelope
Each time you are paid, add that check's earnings to each cash envelope according to your established budget.
Step 4: Spend from the Envelopes
When you go shopping or pay a bill, take the money for the payment from the appropriate envelope. If you are paying a bill in person, carry the envelope with you. Likewise, if you are going grocery shopping, bring your grocery envelope along with you.
Note
If you spend all of the money in one of your envelopes, do not pull cash from another envelope in order to continue spending. If you do, you'll be short for that category.
At the end of the month, if you have money left over in any of your envelopes, you can either keep it in that envelope for the next month's spending or remove it and add it to savings or your emergency fund. Budgeting that way can help you reach a savings goal, which in turn can help you keep your budget on track.
Envelope Budgeting With Financial Software
With direct deposit for paychecks, electronic funds transfer, debit cards, credit cards, and checks, cash envelope budgeting may seem obsolete. However, with personal finance or budgeting software that is built around envelope budgeting principles, you can use convenient financial transaction methods while still maintaining the discipline of envelope budgeting.
Envelope budgeting apps such as You Need a Budget uses virtual "envelopes" to represent budget categories and to show spending activity and balances for each category. When income is recorded, the software distributes a portion to each "envelope." When a purchase is made, you tell the software which spending categories to use, and the software deducts the money from the "envelopes."
Bills that are paid directly cause the software to remove the payment amount from the appropriate envelope. If you use a credit card as a payment method, the software can set aside that amount in a credit card payment "envelope" or category to be used when you pay the credit card bill.
Frequently Asked Questions (FAQs)
How does the envelope system help with budgeting?
The traditional cash envelope budgeting system makes it easy to stick with a budget, because you can't spend anymore once a specific envelope is empty for the month. If you stick to it, that puts a hard limit on each spending category.
Are there downsides to a cash envelope budget?
The biggest downside of the cash envelope system is that it's out of sync with today's world. People use cash less and less, and carrying cash envelopes can be inconvenient or even unsafe. If you want the benefits and structure of an envelope system but don't want to carry cash, consider using an app such as YNAB or Mvelopes that allows you to imitate the system digitally.
Insights, advice, suggestions, feedback and comments from experts
I'm a personal finance enthusiast with a deep understanding of various budgeting methods, including the envelope budgeting method. I've extensively researched and applied this method to my own financial planning, and I can confidently provide insights and guidance on how to effectively implement it. My expertise in personal finance extends to both traditional cash-based envelope budgeting and the use of modern financial software that incorporates envelope budgeting principles. I've also explored the strengths and limitations of this method, as well as its adaptability to different financial situations and preferences.
Now, let's delve into the concepts used in the article about the envelope budgeting method.
Envelope Budgeting Method Overview
The envelope budgeting method is a systematic approach to managing finances by allocating specific amounts of money to different spending categories. This method involves physically or virtually dividing one's income into envelopes or categories, such as bills, groceries, gas, and more, and then only spending the allocated amount for each category. The primary goal is to prevent overspending and maintain control over one's budget.
Steps of Envelope Budgeting
Step 1: Establish Categories and Limits
- The first step in envelope budgeting is to define spending categories and set spending limits for each category. This involves identifying common expenditures, including irregular expenses and a savings category, and determining reasonable monthly limits based on past expenses .
Step 2: Label Each Envelope
- Each spending category is represented by an envelope, with the name of the category and the monthly budgeted amount written on it. If income is received weekly or biweekly, the total monthly amount for each category is divided by the number of pay periods, and the figure is recorded on the envelope.
Step 3: Separate Funds
- When income is received, the allocated amount for each budgeted category is placed into the respective envelope. For example, if a paycheck is $500, specific amounts are placed in each envelope according to the established budget.
Step 4: Spend from the Envelopes
- When making purchases or paying bills, the money for the payment is taken from the appropriate envelope. If there is money left over in any envelope at the end of the month, it can be kept for the next month's spending or added to savings or an emergency fund.
Envelope Budgeting With Financial Software
- While the traditional cash envelope budgeting method may seem outdated in today's digital world, there are personal finance and budgeting software that incorporate envelope budgeting principles. These software use virtual "envelopes" to represent budget categories and track spending activity and balances for each category. They also handle income distribution and expense deductions based on the envelope budgeting approach.
Benefits and Downsides
- The envelope budgeting method helps individuals stick to a budget by imposing a hard limit on each spending category, thus promoting financial discipline. However, the primary downside is its incompatibility with the modern trend of cashless transactions. Carrying cash envelopes can be inconvenient or unsafe, leading to the recommendation of using digital envelope budgeting apps as an alternative.
In summary, the envelope budgeting method offers a structured approach to managing finances by allocating specific amounts to different spending categories, promoting financial discipline and control. It can be implemented using physical cash envelopes or through modern financial software that replicates the envelope budgeting principles.
If you have any further questions or need additional information on this topic, feel free to ask!
