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How To Create A Zero Based Budget

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Budgeting is a necessity if you are working towards your financial goals. Whether you are saving for retirement, a vacation, or planning to go back to school, getting a handle on your spending habits is a must.

Budgeting tools are important and deciding what type of budget works best for you and your family is required. For some, a zero-based budget may be the answer.

To help you decide if this is the right choice for you, we’re going to cover:

What is a Zero-Based Budget?

Zero-sum or zero-based budgeting means you assign every cent you earn a place in your budget. Whether you pay a bill, shop, or save, each cent is assigned a place ahead of time.

With a zero-based budget, you are deciding ahead of time where funds that are not needed for living expenses will be spent. Paying down debt, creating an emergency fund, or saving for retirement can all help you make the most of a zero-based budget.

How to Make a Zero-Based Budget

The first step in a zero-based budget is finding a simple budget template that meets your needs. You will have to take the following steps:

Step One: Set the Stage

For a short period of time, perhaps three months, carefully track all your income and expenses.

If you find it easier, consider using a smartphone application to do this. This step will help you better evaluate your real monthly income and your real expenses.

Step Two: Calculate Your Monthly Income

You should consider income from all sources including:

  • Your full-time job
  • Side gigs including driving for Uber or Lyft, online work sites, etc.
  • Spouse or partner’s income

Step Three: Calculate Irregular Income

Some people have income that is not steady, but they may have access to once a quarter, a month, or once a year. This income may include:

  • Interest or dividend income
  • Cash back income from credit or debit cards
  • State or federal income tax refunds

Since this income may be received at specific times of the year, it is a good idea to make note of when you typically see this income as it will help you later.

Once you have listed all your income you should then calculate your monthly expenses.

Step Four: Calculate Your Monthly Expenses

Keep in mind, you need to figure out everything you will spend regularly including:

  • Rent or mortgage payments
  • Telephone expenses
  • Cable TV and internet expenses
  • Monthly insurance expenses
  • Water, gas or other utility payments
  • Credit card payments
  • Personal loan payments
  • Child care costs
  • Donations you usually make
  • Grocery expenses
  • Entertainment
  • Costs associated with eating meals out

Step Five:  Calculate Non-Monthly Expenses

Nearly all of us have some expenses that are not paid on a monthly basis. Some of these include:

  • Insurance payments — auto, home and life insurance often are paid on a quarterly basis
  • Taxes — if you are self-employed or you pay property taxes, they may be paid quarterly
  • Yard work — if you pay someone to plow your driveway only in the winter or you pay for landscaping for a season
  • Seasonal gifts — holiday or birthday, and anniversary gifts should be calculated so you have an estimate of what you are spending or are planning to spend

Just as you did with non-regular income, make sure you make note of what month these expenses are likely to occur.

Step Six: Budget Your Financial Goals

Decide what your savings priorities are including:

  • Fund your retirement account
  • Pay down your credit card balances
  • Purchase a new car
  • Finance your education or that of your child
  • Create an emergency fund

Step Seven: Getting to a Zero-Based Budget

Take your monthly income and subtract your monthly expenses

If you have a positive balance, decide where to “park” those funds – will you pay down debt, save or buy something you want?

The goal is to reach zero after you have decided where ALL your funds are going to be used.

Tip: While it is common practice to do a zero-based budget on a monthly basis, you can prepare the monthly budget ahead of time, so you have an immediate basis to begin working towards. This can save you some time when you work out your plans each month.

How Would a Zero-Based Budget Work if my Income is Irregular?

Some people do not have standard work situations. You may be self-employed or work on commission which means your income may vary from month to month. When you initially start working on a zero-based budget, you will need to know the “average” of your monthly income.

If your income varies from month-to-month, use the lowest end of your income to start your budget. If you find after a few months that your “average” income is higher than you are estimating, you can adjust as needed.

What if I Have Money Left Over at Month’s End?

If you have money left over at the end of every month, you should be deciding where you want to use those funds.

This is a good problem to have! You have some options including:

  • Splurge — if you have money left over because you saved money by not eating out maybe you want to indulge in a date night.
  • Save — stick the funds into a “rainy day” fund which you can use later.
  • Meet a goal — take the “extra” funds and pay something towards your debt.
  • Rollover — move the “extra” funds into next months’ budget.

What if I Did Not Have Enough Money?

This is tricky — so the first thing to do is identify WHERE you went wrong. Then you have to decide how to fix it.

Spent too much on eating out? Stay home next month.

Spent more than expected on insurance or other expenses? Increase them next month.

Income was down more than expected? Why? Did you miss a day of work which through off your budget? If this is a one-time problem, do not let it weigh too heavily when you work on next month’s budget.

Evaluate Your Plan Going Forward

Whether you had money left at the end of the month, or you ran out of money, you will have to review your zero-based budget before you start a new month.

  • Go through the same steps you used initially in setting your budget.
  • Determine where your spending was different than your budget allowed.
  • Decide if you need to make a dramatic change, or if you merely need to make a modest adjustment.
  • Align your budget with any changes in short-term or long-term goals

Decide if Zero-Based Budgeting is Right for You

Everyone has different needs when it comes to budgeting. You will have to ask yourself a few simple questions to decide if zero-based budgeting is right for you and your family.

  • Are you willing to put in the time it takes to use zero-based budgeting?
  • Do you need a plan to pay down credit card debt?
  • Do you need a plan to pay off student loans?
  • Are you ready to take control of your spending?
  • Do short-term goals work better than long-term goals for you?

If you can answer yes to all, or most, of these questions then zero-based budgeting is probably the right option for you.

Understanding the Pros and Cons of Zero-Based Budgeting

As with any method of budgeting money, there are pros and cons to zero-based budgeting. Here is what you can expect:

Pros of Zero-Based Budgeting

  • You will always be aware of how much money you have coming in and going out
  • This type of plan is fully customizable — you can work out your budget based on your needs
  • You can adjust any month if you have income or expense changes
  • You can reach short-term goals faster
  • Perfect for keeping goals and resources aligned
  • You never feel like you are being forced to “pinch pennies”

There may be other pros that are unique to you which you can find after you start using this type of budget.

Cons of Zero-Based Budgeting

  • May not be ideal for reaching long-term goals
  • Variable income may make this method more challenging
  • Variable expenses can throw you off at any time
  • It takes time to recreate your budget every month
  • You must monitor your spending constantly making it time-consuming

Learning the Value of Budgeting

Peace of mind — this is what most of us have to gain by having a budget in place. Unfortunately, we never know when an emergency may strike our family. We often feel we have a secure job and then our company is taken over by another and layoffs are in the works.

The best time to start learning the value of a budget is as soon as you start earning money. The sooner you get into the habit of learning to track how we spend money, the less likely we are to get into debt.

Nearly one-quarter of all adults in the United States not saved money to retire. More than one-third of every household has less than $400 in savings. We also have staggering levels of debt. The only way to develop a plan for savings, and tackle our debt is to budget our money.

One-Size-Fits-All Budgeting Does Not Exist

It is important to keep in mind there is no plan that works or will work for every person. Finding the right method of budgeting for you and your family may take some time. You should try the zero-based budgeting method and see if it helps you get a better handle on your spending and saving habits.

One thing to keep in mind is zero-based budgeting can give you a real sense of accomplishment. Remember, this is a great option if you are the type of person who prefers to set short-term goals versus long-term goals.

Short-term goals can include:

  • Starting an emergency fund
  • Saving for a summer vacation
  • Saving for that “newest” cell phone
  • Paying off that last credit card

Long-term goals can include:

  • Saving for a down payment on a home
  • Saving for a new car
  • Paying off a student loan
  • Starting a retirement savings account
  • Starting an education savings account for your child
  • Saving for a dream cruise or vacation

Never overlook the fact that your goals can change. Life changes, such as a job change, sick parent, marriage, new child, child entering college, or divorce often result in changes that must be taken into consideration when you are dealing with your finances.

The benefit of a zero-based budget in these situations cannot be overstated. When you use zero-based budgeting, you will know nearly immediately what you are spending every month.

In Conclusion

You never know what you are capable of financially until you try. Whether you currently have money saved, or you are taking on your first job and your immediate need is to pay off your student loans, everyone can benefit from having a good budget in place.

Budgeting allows us to hold ourselves accountable for our decisions. While a zero-based budget may not work for everyone, it is often a good way to determine how you are spending your money. If you learn the structure is more than you need, you can move onto a different budgeting method.

All budgeting methods require work. When you get a raise at work, you change jobs, you pay off a credit card, you buy a new car — anytime there is a change in your income or your expenses, your budget will have to be adjusted regardless of the budgeting method you have chosen.

Avoid setting yourself up to fail. Make sure your income and expenses are realistic when you set a budget up. If you take a couple of months to track both your income and expenses before you set up your initial budget, you are more likely to have a realistic picture of your finances.

Smart spending and savings habits do not just happen. Like any goal in life, the better you plan, the better the likelihood of success. Budgeting is simply a written plan to manage your finances.

You have nothing to lose trying a zero-based budget, in fact, you have everything to gain. Let’s face it, we could all benefit from having a better understanding of our financial status.

Do you think a zero based budget would work for you? Let us know in the comments!

Up Next: Easy Monthly Budget Template

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