An estimation of revenue and expenses for over a future period of time and which is compiled and re-evaluated on a regular basis is called a budget.
What is Envelope Budgeting?
The envelope budget uses a cash-based approach for helping people who face difficulties in following a budget in spending and adhering to the budget. You can start with multiple envelopes each will represent different budget categories. For each category, you have to assign a certain amount of money. This will depend on how much money you want to spend on each category. After the money is spent from each category, the envelope will become empty and you cannot spend any money until a new budget is prepared.
Steps for setting up Envelope Budgeting
There are some specific steps to follow for setting the envelope budget.
Step 1: Add your Monthly Income
It is important to know your monthly income before you can use the envelope budget. All the monthly income that you want to allocate should be used in the envelope budget. Monthly income sources may be as from the below.
- Salary income
- Earning from passive income
- Side earnings
- Investment Income
- Govt financial support
- One-time income that you receive from other sources
Click here How to plan 4 financial stages of life
Step 2: Set Categories for Budget
The second step is to choose the category in which you want to allocate your funds.
- Household items
- Transportation
- Fuel
- Movies
- Gym
- Grocery
- Personal spending
The basic necessities of life such as house rent, utilities, insurance, and loan repayments are not included in this envelope budget. The reason is that these are fixed expenses and mandatory living expenses.
Step 3: Allocate funds for each category
Once you have set categories for the budget allocate funds towards each category. You can decide how much you want to spend on each category. The categories may be different from person to person. Below listed are a few categories of expenses.
- Household items- AED 412
- Transportation-AED 131
- Fuel- AED 500
- Movies- AED 243
- Gym- AED 400
- Grocery-AED 500
- Personal spending- AED-200
Based on the income earning capacity the above figures may differ from person to person. The allocation of funds towards each envelope is limited and the amount should be spent only within the limit.
Step 4: Spending from the envelope
After the cash is allocated into each category of pocket, whenever you spend money from the envelope deduct it from the balance by doing this you will know the remaining amount left over in the envelope. This process will help you to control the envelope and know the running status of the envelope.
If you fall short in the envelope then you may want to take it from the other envelope but here you will fall short in the other envelope. You should have the utmost discipline in spending your money.
Click here for Steps to budget with irregular income
Advantages and disadvantages of Envelope Budgeting
Advantages of Envelope Budgeting
The habit of spending less
If you strictly follow this practice you will get into a habit of spending less money. You will be more careful while spending your money.
It is visible
You can see what you spent and also see your savings on your envelope budget. Spending less in that category will lead to no usage of money from the envelope.
Simple and straightforward
It is simple and clear to categorize your money spent from the same category of the envelope and not allow yourself to use the other budgeted envelope.
Disadvantages of Envelope Budgeting
Requires Cash
This method will need a lot of cash and this will drain a lot of your money. It is best to save a lot of money before starting this process but remember if spending goes wrong then all your money gets wasted.
Cash moments only
You should physically carry cash when you want to spend money. This process requires spending only through cash, leaving a credit or debit card at home.
Not secure
It is not a secure method as there are high chances of theft and mismanagement of cash. You have to make sure that your envelopes are safe and secured.
Online shopping is hard
You cannot make online shopping easy as you have to spend cash, for each item you have to deposit cash into an account and pay for the item.
Not Flexible
It is not flexible and easy to implement if the prices increase due to inflation or any other reason. The allocated funds cannot be sufficient to meet your requirements. It is not practically applicable to implement.
Tips for using Envelope Budgeting Method
- Carry big bills in your envelope so that you are reluctant to spend more cash freely.
- Use money spent towards what you have allocated. Have self-discipline in spending money
- Do not include fixed expenses in your envelope. Fixed expenses such as rent, current bills, utility bills, and others. These are mandatory expenses and they do not change so frequently.
- Do not use this method for saving. Similar to fixed expenses make savings automatic from your monthly income.
- Create specific envelops for each category like movies, gym, video games, travel, and others
- Living with cash instead of credit cards and credit money should become a habit.
- The envelope budgeting method is not successful until you have self-discipline in your spending
Takeaway
The envelope budgeting method is a cash-based approach to budgeting. You are using the envelopes and allocating funds towards each expense. This will make a direction for your money to go where you want to take it. It is easy, simple, and clear if you are using it properly. It ensures that you will get good results and it creates security for the future.