When it comes to managing your personal budget and setting financial goals, it’s easy to get overwhelmed. There’s no shortage of experts and influencers promising incredible results if you follow their secret process. But the truth is, maintaining a budgeting process and building wealth doesn’t have to be complicated. The zero-based budgeting method is a simple, proven system for taking control of your spending and building towards a brighter future.
The zero-based budgeting strategy may help you achieve long-term financial goals by tracking every expense so that nothing goes to waste. With this financial planning method, your household budget starts at $0 (hence the name) and only grows with justified expenses. So, if you’re planning for the monthly grocery bill you don’t guess or simply use the same number you did last month, you take the time to plot through planned expenditures and create a budget based on your needs. When your budget is completed, your planned expenses for the month should be equal to the amount of income you expect to receive. Then you track and record every expense, from major bills such as rent and car payments to little ones, like a bag of chips from a vending machine to ensure you stay within your planned budget.
This method is generally attributed to Pete Pyhrr1, who at the time he developed it worked as an accounting manager with Texas Instruments. After an article on it was published in the Harvard Business Review, the method began gaining popularity. Since then, it has grown in popularity both with individuals and major corporations.
Traditional budgeting methods create a budget based on your historic spending habits. For instance, if last month you spent $400 on food, you may budget that same amount for this month. This method makes it fast and easy to come up with a consistent budget. But with the zero-based budgeting approach, you start from scratch and decide how much you will need to spend this month without using historic data. This allows you to formulate a budget based on changing factors such as rising food prices or a big party you may have planned.
As with any budgeting method, there are pros and cons to zero-based budgeting. There are a number of benefits5, but here are a few of the top reasons to consider zero-based budgeting.
Because you’re ignoring past spending, you can look at the unique aspects you will face in the month upcoming instead of getting distracted by what happened in the past. For instance, if last December you threw a large holiday party, you may have spent more in that month on food and entertainment. But if you do not plan to do the same this year, there is no reason to plan for spending the same amount as the previous year. If, on the other hand, you plan more travel this year than last year, it will be necessary to plan accordingly, regardless of how little you may have spent in this same area the previous year.
Because each expense must be tracked and accounted for, this budgeting strategy requires a strong focus on daily expenses, preventing problems with hidden expenses that plague many budgets, such as old subscriptions that are no longer used. As you track expenses, you may also start to notice categories in which your spending seems to be too high. For instance, by paying close attention to insurance or cell phone costs, you may be encouraged to switch providers and find a lower rate. It also encourages close planning, because instead of consistently rolling over expenses from previous months, you treat each month as a unique entity and plan for the expenses you plan to encounter.
With each expense being tracked, the zero-based approach often results in modified behavior, discouraging wasteful spending on non-necessary items. With traditional budgeting, if you have money remaining in a spending category, you may feel encouraged to spend it. But when you start with a $0 budget and then justify expenses individually, it will be easier to refrain from these purchases. While spending on small items may not seem like a big deal, these purchases add up quickly over the course of time. Saving this money instead of spending it can help you grow your savings in a short time.
When considering a budget-keeping method, it is important to consider all the pros and cons. While there are certainly many benefits to a zero-based budget methodology, there are some drawbacks6 as well.
If you’ve never managed a personal budget before, or if you struggle with strict attention to detail, this approach may be difficult for you. Taking the time to sit down and plan out expenses (with wiggle room for unexpected costs) takes a while, especially when you first start. Traditional budgeting is less time intensive because it simply looks at the historical data and forms a similar budget. Zero-based budgeting requires a more in-depth review of expenses for the upcoming month, and then extremely careful tracking to ensure nothing goes to waste. At the end of the month, any leftover must be allocated to an appropriate expense or be moved to savings.
Because zero-based budgeting does not look at historic data, it can lend itself to a short-term bias when it comes to expenses. For instance, not reviewing historic data may cause you to get caught up in current expenses without an eye towards the future. This can be mitigated by completing budgets as quarterly exercises instead of monthly, but it is nevertheless still a concern.
Managing your budget is an important step forward in your long-term financial security. While it may seem daunting at first, your financial goals are within reach when you consistently follow a budgeting process that tracks your monthly income and expenses. Whether you’re starting from scratch or simply interested in trying a new method, the zero-based budgeting approach will give you the tools necessary to track your monthly expenses and watch your savings grow.
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