The following is a staff post from Crystal Stemberger of Budgeting in the Fun Stuff, a personal finance blog about saving for the future, paying the bills, and budgeting in a ton of fun along the way.
There are thousands of ways to budget. If you need to stay away from credit cards or have a tendency to overspend, the envelope system of budgeting may be perfect for you. Saving money is way easier when you restrict the amount of cash you have to spend.
Different Envelopes for Different Expenses
The envelope system means operating solely on cash. You will need to assign a certain expense category to each envelope and label it accordingly. For example, you’d have one envelope for food, one for car expenses like gas, and another for entertainment. The envelope system is used for discretionary spending, not your recurring monthly bills – utilities, rent/mortgage, etc.
You will be placing your weekly or monthly allowance for each expense into its appropriate envelope.
A budget will help you assign your cash to the envelopes properly. Take a close look at your income and figure out how much you need to save before looking at anything else. That way you know how much will be leftover for you to spend. Break the remainder down in a way to cover your necessary expenses and leave a little for splurging. You can track your spending for a couple of months to determine how much money you will realistically need for each category.
Assign the Cash
Fill each envelope with cash at whatever interval you decide upon. I would suggest operating on a weekly basis. This means that you will need to withdraw your budgeted total in cash each week and fill the envelopes with their target amount. If you have cash left in an envelope from the prior week, put it to the side to decide whether you will now throw that towards your entertainment budget, a savings goal, a debt repayment, or a combo of the above.
Use the Envelopes
Every time that you need to pay for anything, you should take the money out of the appropriate envelope and replace it with a receipt of the expense so you can track where your money has gone. You need to properly ration your money so you do not run out of cash before your envelope is refilled.
Remember that once you have spent the money allotted for each bill that your money is gone for the term you decided upon. The envelope method forces you to live within your means and to stay on track with your budget if you follow the rules of your system. You will be refilling the envelopes at the beginning of the next term. For example, if you chose to operate weekly, refill your envelopes at the beginning of each week.
Savings, Debt Repayment, or Fun
Since you are only using a set amount of cash for your envelopes with this system, you should be leaving the rest of your paychecks in your bank account. You may have some cash left at the end of each term as well. All of this unused money should be used for the goals in your life. Determine whether you are saving enough for retirement, need to build up an emergency fund, have debts to pay off, or have an entertainment goal in mind. Assign the unused cash and banked money based on those priorities.
Overall, the envelope system of budgeting will allow you to automatically save and will limit your spending to the budgeted cash amounts you assign.
Have you ever used the envelope system yourself? What suggestions do you have for others?