zero-based budgeting - Boss Of My Money

zero-based budgeting

Categorised as Money Management
couple doing zero-based budgeting

In this article, you’ll learn all about zero-based budgeting, how it compares to traditional budgeting, the advantages and disadvantages and how to create one. So let’s get started!

Why does Budgeting Matters?

While most traditional budgeting methods involve tweaking an existing budget, zero-based budgeting is a more effective method and yields better results.

Budgeting and cost-cutting are two tasks that may not be exciting but are necessary for financial success.

To stay on top of your personal expenses, you need to create a budget that you love and regularly update it to reflect an accurate picture of your circumstances.

More importantly, it must be a budget that is suitable for you. A great tool we suggest is The Money Assessment as a starting point.

What Is Zero-based Budgeting?

  1. Zero-based budgeting is a unique budgeting approach where the total income and expenses are reviewed every new budget period.

  2. It is not based on the previous month’s budget and therefore, no monies should be carried over to the next.

  3. A zero-base budget is one where your income minus your expenses equals zero at the end of the month or pay period.

  4. For example, let’s say you earn £2000, everything you spend, save, or invest should add up to £2000 with zero dollars or pounds leftover on your budget!

  5. The zero-based budgeting technique ensures that your monthly costs equal your monthly income, ensuring that every penny is well spent.

  6. The zero-based budget allows for only the current expenses and income to be planned for at that specific pay period.

Who Introduced Zero-based Budgeting?

Peter Pyhrr developed zero-based budgeting while he was an accounting manager at Texas Instruments in the 1960s.

He developed this budgeting strategy to link top-level strategic objectives to specific functional units within the organisation.

Since then, this approach of budgeting has gained popularity among the general public and introduced for household budgeting.

Zero-based Budgeting vs Traditional Budgeting

Traditional budgets track monthly expenditures, but zero-based budgeting aims to justify both past and future expenditures and finishes a ‘zero’.

Advantages And Disadvantages of Zero-based Budgeting

Advantages of Zero-based Budgeting

1. A zero-based budget keeps you abreast of cash flow

You can track monthly account balances with a zero-based budget. As a result, you can avoid buying on credit and improve your financial stability by controlling your cash flow.

2. You can customise a zero-based budget to fit your specific needs

Your ability to successfully choose which items to add or eliminate from your monthly budget. Developing financial discipline will improve as you go in your personal finance journey.

3. A zero-based budget looks at the reasons why you are spending money

Traditional budgeting is concerned with tracking what is spent after the fact.

While the zero-based budgeting method also considers this, it takes into account the reasons why you are making spending decisions. It looks at the choices you make, helping to steer you towards a specific purpose.

A zero-based budget corrects any spending behaviours that negatively impact your financial health and takes into account planned new expenditures.

4. A zero-based budget quickly detects overspending

If a specific line item in your budget takes a bulk sum of the money, then zero-based budgeting will detect the issue quickly.

It looks at the exact amount needed within a review period with the expectation you will run out of money there.

If you have any remaining balance, you can use it to save, pay off extra towards debt repayment, or even splurge if satisfied with everything else.

5. Zero-based budgeting creates a need to justify each expenditure

You can better make choices about your spending habits with this type of budgeting regardless of whether the things you buy are needs or wants.

You have to have a specific reason for making the purchase you make or any new expenses, especially if they become regular.

Disadvantages of zero-based Budgeting

1. It takes a lot of time to manage a zero-based budget

To hold yourself accountable to your budget, you have to closely monitor your spending month by month. Creating this structure can be a challenge if you are new to budgeting.

Irregular expenses need to be accounted for and tracked monthly. To avoid this, create more time and be patient, especially if this is your first time budgeting.

2. The Zero-based budgeting method can be difficult on an unpredictable income

Zero-based budgeting works best with a predictable monthly income rather than for someone on a more irregular income.

It might be difficult to know how much to allocate monthly if you are a freelancer or an independent contractor. It is NOT impossible to implement zero-based budgeting with this income, but it requires a bit more work.

To be able to use zero-based budgeting on a variable income, you would need to create a buffer savings account. When you make more money, you can save it in the buffer account and use it to supplement your budget that month.

You will also need to regularly update and review your monthly budget as and when income comes in, so it will be slightly harder to automate.

3. A zero-based budget can promote perfectionism

With any type of budgeting, it’s easy to fall prey to budgeting perfectionism. You could be setting yourself up for anxiety, and increased financial stress. Such emotions counter the reason for budgeting in the first place.

Don’t be too hard on yourself. Be flexible enough to know that you may not hit the perfect numbers every month.

Learn from it and refine your budget for the following month.

How To Create a zero-based budget

1. Write down your monthly income

To begin, account for your total income each pay period using an old-fashioned paper writing technique, an excel spreadsheet, or a budgeting app.

2. Write down your monthly expenses

Next, you want to write down all your predicted expenses before the beginning of a new month or new pay period. Start your budget with your expense categories which include essential expenses such as:

  • Shelter (which would cover rent or mortgage payment)
  • Food (groceries, takeout food, dinner with friends/family)
  • Utilities (electric, gas, phone bill,
  • Insurance (this might include health insurance, life insurance, buildings insurance, travel insurance etc)
  • Debt payments (credit cards, personal loan, student loans – try to meet the minimum payments for these)
  • Car payment
  • Transport
  • Emergency fund (if you don’t have one)

Having covered these important things, you can add additional categories.

3. Write down your seasonal expenses

Following your monthly expenses take a look at the whole year. Allocate a monthly savings amount for events like Christmas, birthdays, or anniversaries. Include these expenses within your budget.

In addition, include irregular expenses, such as automotive renewal fees, property taxes, and so on, are anticipated to occur on a periodic basis.

4. Subtract your income from your expenses to equal zero

Recognise that your income and expenses may not be at zero, even though you want them to. This suggests you should either increase revenue or decrease expenses, or both!

While it may take you some time to work with your budget, it’s important to be patient with yourself and stay consistent to see the true benefits. 

Don’t forget to include your variable income, such as money made from a side hustle.

5. Track your spending throughout the month

All that remains is to start tracking your monthly expenses. This way, you’ll be able to see if your spending is in accordance with your budget.

By intentionally tracking your expenses with this budgeting plan, you can see what progress you are making with your goals.

It’s a wrap

Whether you are trying to get out of debt, putting money away for short term goals, or saving up a safety net, you’ll need a budget.

Implementing a zero-based budget means you’re taking a more practical approach to spending, making it easier to see where your money is going and without having to hustle to cover unexpected expenses.

It also ensures you don’t live a paycheck to paycheck income dependency lifestyle since the zero-based budget allows you to cover all your bills and monthly expenses without overshooting the budget.

If you are ready to take the plunge and make a positive change in your financial life, you should consider beginning with zero-based budgeting. 

A great way to do this is by taking getting your mone assessment to establish your financial goals and create a budget that works!