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Have you ever ended the month and even though you budgeted well, you know you had an extra $100 leftover when you totaled everything out but you can’t for the life of you figure out where it went?
It’s the classic problem with just using a basic budget. You know you’re covering your basic expenses, but any surplus just gets lost in the void of Target trips and Starbucks runs. (No judgment)
Now, this isn’t necessarily a bad thing that will derail your finances, but it is something that could be improved upon. Knowing where every dollar is going is a powerful way to supercharge your journey to financial independence.
This type of “every dollar in its place” budget is called zero-based budgeting and honestly? It’s only a half-step more advanced than a basic budget and is still pretty flexible overall.
Step 1. Total Your Income
This is everything from your regular paychecks, to alimony or child support, to financial aid packages if you’re a student.
For lump payments and irregular income, I would suggest finding the average amount per month you received over a 6-12-month period and using that to budget with. If your income is highly seasonal then use seasonal averages instead.
Step 2. List your monthly and non-monthly expenses
Some bills don’t come up every month like tag renewals, property taxes, and gift purchases. With these, divide the amount by the number of months in the between payments to find what your monthly contribution should be.
Top Tip: The money for your non-monthly expenses should be set aside in a separate savings account (sinking fund) so that you know they will be covered when the due date comes around.
At this point, you might be wondering how to account for variable expenses like utilities and emergencies. This is where your budget gets a little fuzzy, but uncertainty is a fact of life.
For variable expenses, you’ll want to take a 3-4-month average of the expense, or if it’s variable based on the season you’ll want to take the average based on last year’s season (I like to add a 10% buffer just in case of inflation and such). If your actual expense is less than the budgeted amount, treat it as a windfall and place it into savings. If the expense is greater than the budgeted amount, consider how you can improve in the next month, and cover the difference with your savings or a sinking fund.
With the zero-based budget, your emergencies will be covered by your emergency fund which you should ideally be contributing to regularly until you have a nice cushion to cover such things.
Step 3. Get to zero
This is the part where you give every dollar a job. There are no freeloaders in this budget.
To do this, take the total of your monthly expenses, including the non-monthly expense contributions, and subtract it from your total monthly income.
Your goal for this budget is for this number to be zero. If it isn’t then you need to make some adjustments to your numbers.
Is your number negative? You’ll need to decrease your monthly expenses or increase your income in some way. Bump up the thermostat, start a side-hustle, switch to store-brand groceries. There are a lot of options here.
Is your number positive? Awesome! I would generally recommend that this leftover money be put into savings or used for debt repayment but sometimes it’s also nice to just treat yourself and your family. Maybe a night out with your significant other or a surprise pizza and ice-cream party with the kids?
Step 4. Evaluate and adjust as needed
At the end of the month/beginning of the next month, sit down and see how you did.
Where did you struggle? Were there any places that you went over budget? Under budget? Is there anything that you forgot to account for that you need to add to next month’s budget? Are there any changes in income or expenses in the coming month?
Make sure you update your budget to account for these things.
Considering how simple it is, the zero-based budget is an incredibly powerful tool in bringing your finances to the next level. By giving every dollar a place in the budget, even if it is under daily Starbucks indulgences (still no judgment), you know with certainty where all your money is going.
Although monitoring your expenses throughout the month is a bit of work one way to make this particular task easier is to use an online expense tracker like Mint. Even with the added work, the peace of mind you’ll get is worth it in the long run.