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Envelope budgeting


Envelope budgeting is a time-tested method of managing money. Traditionally, people would divide their physical cash into different physical envelopes, each representing a specific expense category like groceries, entertainment, or savings. When all the cash in an envelope was spent, no more money could be used for that category until the next budgeting period. This method helped people control their spending by making them aware of their financial limits.

In Actual Budget, we bring this traditional system into the digital age. Instead of physical envelopes, Actual Budget uses categories that serve the same purpose. Each category is like a virtual envelope where you allocate a portion of your income. This modern approach not only maintains the benefits of the envelope system but also addresses some of its limitations.

One key difference is that traditional envelope budgeting often overlooks fixed expenses like rent, mortgage, utility bills, and other regular payments. These fixed costs are crucial and must be accounted for to have a complete picture of your finances. Actual Budget ensures that every fixed or variable expense is considered. This comprehensive approach makes AB much more effective than the traditional cash-stuffing method.

A significant advantage of using Actual Budget is increased awareness of expenses. Knowing where every penny of your money is spent is a decisive step towards financial control and stability.

Zero-Sum Budgeting

Zero-Sum budgeting1 is a key principle in electronic envelope budgeting systems like Actual Budget. This approach means that all income is assigned to a specific category, leaving no money unallocated. This gives every unit of currency a purpose, ensuring that income is used efficiently and intentionally. A popular saying is all your money should have a "job".

One dollar (or whatever your currency is) may be used for Netflix while the next dollar may be for savings. Giving every dollar a job forces you to be honest about where you money is going because each dollar can only have one job.

Here’s what Zero-Sum Budgeting involves:

  • Total Allocation: All your income is allocated to specific categories, resulting in a zero balance.
  • Goal-Oriented Planning: It encourages you to assign funds with specific goals, such as saving for emergencies, paying off debts, or investing. This aligns your spending with your overall financial objectives.
  • Flexibility: This method allows flexibility as your priorities change. It requires regular evaluation and adjustment, making it suitable for those with dynamic financial situations.

By following Zero-Sum Budgeting, you can maintain control over your finances and ensure that every income is working towards your financial goals.

Zero-Sum Budgeting Strategies you can use

Every one has a different situation so there isn't a once size fits all way to assign your available funds. Detailed below are a few strategies you can use.

The Basics of Zero-Sum Budgeting

A basic idea with zero-sum budgeting is that you can only budget what you have, and all you have should be budgeted. If you budget more than you have one month, the over budgeted amount will be deducted from what you have available the next month. So to start, decide what your most important categories are. Those important categories might be rent, food, and utilities. Assign what you need for those categories, then repeat the process for the next most important categories until your to budget amount for the month reaches zero. When you get a paycheck, or other income, continue filling in where the funds are needed.

As you go along you will start to get a good view of where your money is going. If you don't like how things are going, make changes. If you're happy, great! Keep budgeting to keep track of your progress on your goals.

A more detailed breakdown of how budgeting in Actual works is provided in the budgeting page.

Credit Cards

If you currently are carrying credit card debt in an on budget account you will need to capture that debt in a category. A guide on how to handle that can be found in the credit card guide.

The Month Ahead Method

It can be hard to know where to budget your funds when you get paid in the middle of the month, or get multiple paychecks per month. One way to handle this is called the month ahead method. This consists of holding everything you make this month and only budgeting it next month. The goal is to not need any of this month's income for this month's bills, but pay all of this month's bills with last month's income. Actual makes this easy by allowing you to hold your available funds for the next month by clicking the To Budget amount at the top of the budgeting screen and selecting the "Hold for next month" option. You can read more about this on the budgeting page

Shared accounts

We have a guide on what to do when it comes to strategies for handling joint accounts.

Returns and Reimbursements

You can read more about these in the returns and reimbursements guides.

How to set up and use an envelope system with Actual Budget

Learning to budget using Actual Budget is straightforward, even if you're new to budgeting. Here's a checklist for getting started:

1. Establish budget categories

The first step is deciding which expense and income  categories to include in your budget. Tailor each category to fit your specific budget and spending habits, giving you the power to customize the system to your needs for the most accurate tracking.

Common categories might include general areas such as groceries, gas, clothing, entertainment, and savings. Additionally, you can use Actual Budget for managing debt payments and long-term savings goals, ensuring all aspects of your financial life are comprehensively covered.

Review the last three months of your bank statements to identify your categories. Look for recurring expenses and income sources to determine which categories are necessary. This will give you a clear picture of where your money goes and help you create a budget that reflects your spending patterns and financial goals.

2. Allocate amounts to each category

Once you have identified the categories for your expenses and incomes, the next step is to decide how much money to allocate to each category. This allocation ensures that every part of your financial life is accounted for and helps you manage your money effectively.

A practical way to determine these amounts is to use the average of at least the last three months' bank statements. Better yet, it is using the previous six months. This average provides a realistic estimate of your spending and income patterns, allowing you to set initial budget values that reflect your financial habits.

For example, if you have € 1 200 to allocate for the month, your budget might look like this:

CategoriesAllocated (budgeted) fundsExplanation
Groceries€ 300This covers your monthly food and household supplies.
Gas€ 100Allocated for fuel and transportation costs.
Dining Out€ 150Money set aside for eating out at restaurants or cafes.
Clothing€ 100Funds for purchasing new clothes or accessories.
Entertainment€ 150Budget for movies, hobbies, or other leisure activities.
Gifts€ 50Savings for birthdays, holidays, or special occasions.
Personal Care€ 150Allocated for health and beauty products or services like haircuts.
Savings€ 200Money set aside for future needs or emergencies.
TOTAL€ 1 200

By carefully allocating amounts to each category, you create a clear and realistic budget to help you manage your finances more effectively and achieve your financial goals.

Remember, these initial values are not set in stone. As you start tracking your expenses, you might find that some categories need more or less money. This flexibility empowers you to adjust your budget as needed, putting you in control of your financial situation.

3. Track your spending for each category

With your budget now allocated, the next step is to track your spending diligently. This is essential for making the envelope system work effectively.

Each time you make a purchase, add the spending to Actual Budget. While this might seem like a lot of work initially, it will significantly increase your awareness of your spending habits, enabling you to make informed decisions about what and how much to spend.

As you become more accustomed to this budgeting method, you can update Actual Budget less frequently, such as once a week. This flexibility allows you to adapt the system to your lifestyle. Additionally, if supported, you can set up automatic syncing with your bank to streamline the process.

Here’s how to do it:

  1. Record every transaction: Every time you spend money, whether it's buying groceries or paying for gas, immediately enter the amount into Actual Budget under the appropriate category. This ensures that your budget is always up to date.
  2. Analyze spending habits: Take time each week to review your spending. This will help you identify patterns and make adjustments as needed. This proactive approach can prevent overspending and help you stay on track with your financial goals.

Tip: You don't have to spend each category down to zero each month. If you have money left over, it means you spent less than planned. Use any leftover funds to pay down debt or add to your emergency fund. Giving any extra money a purpose is key to ensuring the money doesn't go to waste.

By consistently tracking your spending and adjusting your budget as necessary, you'll maintain better control over your finances and work more effectively towards your financial goals.

4. Adjust and adapt

Life is full of unexpected twists and turns; your budget should be just as flexible. When you overspend in a budget category for the month, it’s crucial to adjust and adapt rather than feel defeated. As you adapt your plans in real life, you can do the same with your budget.

Maybe an unexpected event arose, or you underestimated your expenses. The key is to remain flexible and make necessary adjustments.

How to Adjust Your Budget

  1. Review your spending: First, identify where you overspent. Look at your budget categories to see where adjustments are needed.
  2. Reallocate funds: Move money from categories with surplus funds to cover the overspending. For example, if you budgeted € 100 for Eating Out but spent € 140, find another category with extra funds, like Clothing or Entertainment, and shift some of that money to cover the difference.
  3. Stay calm and flexible: Remember, the goal of budgeting is to manage your finances effectively, not to be perfect. Flexibility is key. Adjusting your budget is a normal part of the process.

You can also set up Actual Budget to automatically deduct the overspending from next month’s funds. Be aware that even if you can do something, it does not mean that you should do it.

You maintain control over your budget by reallocating funds and avoiding unnecessary stress. This process helps you understand that budgets are not rigid constraints but flexible tools that can adapt to your changing needs.

4. Prepare for the unexpected

There’s no such thing as a "normal" month when it comes to expenses. Your costs fluctuate throughout the year, often unpredictably. Envelope budgeting helps you prepare for these irregular expenses by adding funds to your categories.

Many people face financial stress because of large, infrequent expenses that catch them off guard. These might include:

  • Annual insurance premiums
  • Gifts and celebrations
  • Car repairs and maintenance
  • Medical expenses
  • Home repairs

Without planning, these expenses can lead to financial crises, forcing you to dip into savings or debt. Envelope budgeting encourages proactive saving, so you’re never caught off guard.

Some regular expenses you already know about. You can plan for those and set aside a smaller amount of money each month to cover these rather than having to put up the larger amount when the bill comes.

How to plan for irregular expenses

  1. Identify Irregular Expenses: List of all large, infrequent expenses you expect throughout the year. These could be anything from insurance premiums to holiday gifts.
  2. Break Down Annual Costs: Calculate the total annual cost for each expense.
  3. Divide into Monthly Savings: Divide the annual cost by 12 to determine how much you need to save each month.
  4. Create Specific Categories: For each irregular expense, set up specific categories in Actual Budget. Label them clearly, such as “Car Insurance,” “Holiday Gifts,” or “Home Repairs.”
  5. Allocate Funds Monthly: Allocate the calculated amount to these categories each month. Treat this allocation as a fixed expense to ensure you consistently save for these future costs.

Example: Let’s say your annual insurance costs are € 2 400. Instead of scrambling to find this amount when the bill arrives, you can set aside € 200 each month. By the time the bill is due, you’ll have the total amount saved and ready, avoiding the need to dip into savings or incur debt.

Using Actual Budget with debit cards is better than using cash

While the traditional envelope system relies on cash, using Actual Budget with debit and credit cards offers significant advantages. Here's why using cards can be more effective:

Ease of tracking: When you use debit or credit cards, all your transactions are automatically recorded in your bank statement. Bank and credit card statement statements provide a detailed history of your transactions, including the date, amount, and merchant. This makes it much easier to track your spending without having (to remember) to manually enter each transaction whenever you make a purchase or get income. Most financial institutions will let you export your transactions as CSV files, which can be imported into Actual Budget. Using cards will save you time and reduce the risk of errors.

Automatic import: Actual Budget can sync directly with your bank accounts. Every time you use your debit or credit card, the transaction details are automatically imported into your budget categories. You no longer need to keep physical receipts or manually log each expense.

Read more about managing credit cards with Actual Budget.

An detailed example of how to do Zero-Sum budgeting

Let's say your total monthly income of January is € 1 200. You get your money on the 1st. Using Zero-Based Budgeting, you will allocate every unit of this income to different categories, ensuring that nothing is left unassigned. This is known as the Total Allocation.

Here's an example of how you could split the € 1 200:

Groceries€ 300This covers your monthly food and household supplies.
Gas€ 100Allocated for fuel and transportation costs.
Dining Out€ 150Money set aside for eating out at restaurants or cafes.
Clothing€ 100Funds for purchasing new clothes or accessories.
Entertainment€ 150Budget for movies, hobbies, or other leisure activities.
Gifts€ 50Savings for birthdays, holidays, or special occasions.
Personal Care€ 150Allocated for health and beauty products or services like haircuts.
Savings€ 200Money set aside for future needs or emergencies.
TOTAL€ 1 200

We now see that all € 1 200 are assigned to specific categories, ensuring that every unit of your income has a purpose.

Week 1 budget tracking

Let's track the expenses in Week 1 and calculate the available amounts for Week 2.

CategoriesBudget Week 1Spending Week 1Available for Week 2
Groceries€ 300€ 123€ 177
Gas€ 100€ 40€ 60
Dining Out€ 150€ 10€ 140
Clothing€ 100€ 34€ 66
Entertainment€ 150€ 30€ 120
Gifts€ 50€ 45€ 5
Personal Care€ 150€ 75€ 75

In this table, the "Available in Week 2" column shows the remaining budget after subtracting the Week 1 spending from the initial budget. This helps you see how much you have left to spend in each category for the next week.

Week 2 budget tracking

In week 2 you, are invited to a housewarming party, and you want to bring a gift. In the Available in Week 2 we saw that you only had € 5 to spend. This does not go a long way - but you found a gift costing only € 10.

Let's track the expenses in Week 2 and calculate the available amounts for Week 3.

CategoriesAvailable Week 2Spending Week 2Available in Week 3
Groceries€ 177€ 98€ 79
Gas€ 60€ 34€ 26
Dining Out€ 140€ 30€ 110
Clothing€ 66€ 34€ 32
Entertainment€ 120€ 30€ 90
Gifts€ 5€ 10€ -5
Personal Care€ 75€ 40€ 35

Now you are in deficit in the Gift category.

You should not really have a deficit in your budget, so you exercise the Flexibility principle by reducing money from one of the other categories. You do not want to use your savings - as this is a Goal. Dining out is not essential so you move 5 from Available Week 2 into Gifts.

Updated week 3 availability

After adjusting the budget to address the deficit in the Gifts category by reallocating funds from Dining Out, here is the new available budget in Week 3:

CategoriesAvailable Week 2Spending Week 2Available in Week 3
Dining Out€ 135€ 30€ 105
Gifts€ 5€ 10€ 0

This updated table reflects the reallocation of € 5 from the Dining Out category to cover the deficit in the Gifts category, ensuring that all budgets remain positive in Week 3.

Week 3 budget tracking

Let's track the expenses in Week 3 and calculate the available amounts for Week 4.

CategoriesAvailable Week 3Spending Week 3Available in Week 4
Groceries€ 79€ 63€ 16
Gas€ 26€ 12€ 14
Dining Out€ 105€ 20€ 85
Clothing€ 32€ 0€ 32
Entertainment€ 90€ 35€ 55
Gifts€ 0€ 0€ 0
Personal Care€ 35€ 38€ -3

Note that Personal Care is in deficit, so you must reallocate funds from another category to cover this deficit.

Luckily, this week, we won € 37 at the lottery. We will allocate all of these € 37 wisely. The most important thing is to take care of the deficit. We now exercise both the Flexibility and the Total Allocation principles.

What do we do with the rest of the money we won? We can add them to the Savings category. We see that we are probably going to spend more than 16 on Groceries - and there are no more parties which requires Gifts in the coming week.
We decide to split the rest of the money between Groceries and Savings.

CategoriesAvailable Week 3Spending Week 3AdjustmentsAvailable in Week 4
Groceries€ 79€ 63€ +24€ 40
Gas€ 26€ 12€ 14
Dining Out€ 105€ 20€ 85
Clothing€ 32€ 0€ 32
Entertainment€ 90€ 35€ 55
Gifts€ 0€ 0€ 0
Personal Care€ 35€ 38€ +3€ 0
Savings€ 200€ 0€ +10€ 210

In this revised table, the deficit in Personal Care has been addressed, and the remaining lottery money has been allocated to Groceries and Savings to better prepare for the coming week.

Week 4 budget tracking

Let's track the expenses in Week 4 and calculate the available amounts for next month

CategoriesAvailable Week 4Spending Week 4Available in Week 5 (February)
Groceries€ 40€ 38€ 2
Gas€ 14€ 0€ 14
Dining Out€ 85€ 45€ 40
Clothing€ 32€ 16€ 16
Entertainment€ 55€ 17€ 38
Gifts€ 0€ 0€ 0
Personal Care€ 0€ 0€ 0

Preparing for February: Learnings About Our Spending Habits in January

  • We had to adjust the Groceries budget when we won the lottery. Without this, we would have had a deficit in this category. Therefore, we need to increase next month's budget for Groceries.
  • We used more money than was allocated for gifts, so we should increase the budget for this category next month.
  • We spent much less on Dining Out than we allocated, so we can reduce this budget for February.
  • We will also increase the Gas budget by € 10 because if we had to fill gas in week 4, we would have faced a deficit and need to cover it from other categories.

The rest we put into our Savings category

CategoriesAvailable after week 4February Budget To be allocated
Groceries€ 2€ 350€ 348
Gas€ 14€ 110€ 96
Dining Out€ 40€ 150€ 110
Clothing€ 16€ 100€ 84
Entertainment€ 38€ 150€ 112
Gifts€ 0€ 75€ 75
Personal Care€  0€ 150€ 150

The sum of to be allocated is € 975. The monthly income for February is € 1200. € 1200 - € 975 = € 225 is added to the Savings category. This is € 25 more than last month. A job well done of not overspending more than necessary!

This revised budget considers the adjustments based on our spending habits in January, ensuring a more accurate and adequate budget for February

CategoriesAvailable at the start of February
Groceries€ 350
Gas€ 110
Dining Out€ 150
Clothing€ 100
Entertainment€ 150
Gifts€ 75
Personal Care€ 150

  1. Another name for this type of budgeting is Zero-Based Budgeting.