Budgeting is undeniably one of the most important tools in your financial arsenal. We all work hard to earn money. However, it is the spending that differentiates our financial status from each other and budgeting helps you control that. While there are many ways to create a budget, each one is suited for a certain set of people. Before you start budgeting, explore the different ways in which you can create a budget and pick one that clicks with your personality. Today, we are going to talk about the zero-based budgeting method and how you can implement it.
What is Zero-based Budgeting?
In zero-based budgeting, your income minus your total expenses should equal zero. In other words, every dirham earned needs to be accounted for. This ensures that you put your entire money to work in the coming month. This DOES NOT imply that you don’t save. In fact, savings are also an expense and so is debt repayment. Let’s understand his with the help of an example:
You earn 15000 AED per month. So, all your expenses must add up to 15000 AED. You open a spreadsheet and start allocating funds for rent, travel, food, utilities, etc. Also, make room for savings and debt repayment. Create a list so that it all adds up to 15000 AED. That is a zero-based budget.
Implementing a Zero-Based Budgeting Method
Here is a step-by-step guide to implement a zero-based budgeting method in your personal life:
- Make a list of all your monthly income avenues
- Create a detailed list of your monthly expenses
- What are your non-monthly expenses?
- Time to ZERO the Budget
- Time to put the plan into action
Step 1 – Make a list of all your monthly income avenues
If you are a salaried person, then this would mean your salary and any performance-linked monthly incentives (like sales incentives, etc.). Additionally, any other source of income like monthly interest on term deposits, dividends, rental income, etc. should also be specified. The idea is to know how much money you have every month to create an effective budget.
Step 2 – Create a detailed list of your monthly expenses
This will take time hence ensure that you have time on hand before starting this part of the process. You will need to create a list of all your expenses expected in the coming month. Remember, this list can change every month. Try to cover as much as you can. Start with the essentials like food, shelter, utilities, transport, and fixed medical costs if any. Next, list every possible expense that you can think of in the coming month. Here is a sample:
|Monthly insurance premium|
|Loan and Credit Card Repayments|
We understand that life is unpredictable and unexpected costs spring at the most unexpected times. Hence, add a category called ‘Miscellaneous essential costs’ and allot a budget based on your prior experiences with your life. This category will provide when you have to face an expense that you have not budgeted for. Just remember to use it for essential expenses only not buy that amazing show that you have been eyeing for months. By the end of the month, if no miscellaneous expenses arise, then have a plan in place to use those funds for debt repayment or to boost your savings.
Savings should also be a category in your expense sheet and so should debt repayment. Pre-determine the amount that you want to save and divert towards debt repayment in the coming month. You might also want to include emergency funds as a category if you don’t have such a fund in place.
Step 3 – What are your non-monthly expenses?
Festivals, birthdays, anniversaries, etc. are fixed annual events that come bundled with costs. Hence, it is prudent to start saving for them well before time. Think about a broad budget for each of these non-monthly expenses and start creating a small fund to manage these expenses. You can also include your annual, biannual, or quarterly travel plans if the budget permits. Apart from the fun elements, plan for annual insurance payments, car-related annual costs, property-related costs, etc. By budgeting for these costs before time and setting aside some funds every month, you won’t have to worry about these expenses when they arrive.
Step 4 – Time to ZERO the Budget
Now comes the most important part – subtracting your expenses from your income and ensuring that the result is zero. It won’t happen right away and will require some balancing. You might have to bring down some expenses and increase some others. The idea is to balance out all your expenses to match your total monthly income.
When you start, there are two possibilities:
- Expenses Less than Monthly income – This means that you are in a good position, to begin with, and must capitalize on it to clear all debts and save for multiple goals.
- Expenses Greater Than Monthly income – This is the more common situation. Here you face a dual challenge. You don’t just have to bring your expenses down, but also have to include savings and/or debt repayment while bringing the result to zero. If this is not seeming possible, then you might want to start considering an additional source of income a part-time business or freelancing, etc.
At the end of the day, every Dirham should have a purpose. Even the Miscellaneous category, as explained above, must have a purpose if it remains unused by the end of the month. Money without a purpose is usually spent on unnecessary purchases. Hence, ensure that not a single Dirham is left unaccounted for.
Step 5 – Time to put the plan into action
As you step into the month, you will have clarity about your expected expenses and a budget to manage them. Ensure that you track all your expenses through the month and keep them in sync with your budget. The zero-based budgeting method works wonders for people who can’t prioritize savings or debt repayments. By turning them into fixed costs and not leaving a single Dirham loose in your hands, this method makes you work towards your goals with clarity.
A zero-based budget allows you to be the boss of every Dirham you earn and command it to do what you want. Unlike the traditional budgeting methods, this is not a pursuit to save as much as you can. On the contrary, like the reverse budgeting method, you determine the amount you want to save but also control your expenses. In a nutshell, it combines the benefits of different budgeting methods to offer a comprehensive way to take control of your finances.
Budgeting is not easy – it’s not supposed to be. However, it is the best way to ensure that you use your hard-earned money optimally and create financial independence in the future. We hope that this article provided you with enough information about the zero-based budget to help and decide whether this will work for you. You can research more or talk to a financial advisor for further clarity. Just don’t procrastinate too much and start budgeting today!