Cash Envelope System: How It Works

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If you’re trying to get out of credit card debt, managing your money using a cash envelope system is something money expert Clark Howard has recommended for years.

We’ve all read the studies that say people spend more when they pay with plastic instead of cash. Is that really true?

Budgeting With a Cash Envelope System

I decided to test out the cash envelope system, which is also known as the envelope method. However, I made a few simple tweaks to make the system easier to follow in a digital world.

Let me be clear: There’s nothing wrong with the old-fashioned way! I just wanted to make it more practical.

For years, I’ve put nearly all of my expenses (groceries, restaurants, clothing, gas) on credit cards for the rewards and pay them off in full, so switching to cash was an adjustment.

Here’s the 7-step plan I followed to make budgeting with cash work:

1. Stop Using Credit Cards

Freeze your credit cards

The first thing I did was freeze all but one of my credit cards to limit the temptation to use them. I put the cards in a Ziploc bag, submerged the bag in a bowl of water and stuck it in the freezer.

If this seems a bit too extreme, stash the cards somewhere else — just don’t leave them in your wallet!

2. Make a List of Expenses 

List your expenses

Next, make a list of where your money is going. I use two online budgeting tools to track my spending (Mint and Personal Capital), so all I had to do was log in to see a list of my major expenses. Here’s our list of best budgeting apps right now.

Don’t worry about separating fixed and variable expenses for this step. Just jot down your budget categories!


3. Decide Which Categories Are Best for Cash Spending

Choose cash-only categories for the cash envelope system

Now that you have a list of your budget categories, you want to identify the ones where you think you have the most room for improvement. What are you wasting money on?

For this challenge, I narrowed it down to just three variable spending categories that I managed with cash:

  • Food and dining
  • Clothing
  • Miscellaneous shopping

I left out transportation because I don’t overspend on gas and paying with a card is much more convenient.

The crossed-out expenses represent budget categories that I’m already doing a pretty good job of managing, and I put stars next to expenses that I may want to focus on in the future.

Fixed expenses like mortgage/rent, utilities and insurance policies can stay on auto-pay — don’t touch those!

4. Get Out Those Envelopes! 

Fill your envelopes with cash

Here are the envelopes for those three categories. I set a budget for each of them and went to the bank to get the cash. My goal was to make it last for two weeks.

Some people fill up their envelopes every week or every payday — it’s entirely up to you.

I wrote down the deposit amount on the back of each envelope, and I kept track of my spending using a note-taking app and the calculator on my smartphone.

You may prefer the low-tech way of listing your transactions on the back of the envelopes.

5. Include Online Spending in the Cash Budget

Make a plan for online spending

How do you shop online with a cash budget? Let me explain the workaround that I used.


In addition to my three envelopes filled with cash (food, clothing, miscellaneous), I had an envelope that said “Online” — but this one didn’t start with any money in it.

For online purchases, I used the one credit card that I didn’t put in the freezer.

Immediately after shopping online, I took money from one of the cash envelopes and transferred it to the envelope for online spending so that I held myself accountable for that purchase.

Here’s an example:

  1. Bought an electronic item online for $20
  2. Took $20 out of the “Miscellaneous Shopping” envelope
  3. Put the $20 into the “Online” envelope

You can then take the money from the “Online” envelope to your bank or use it to fund the other envelopes when it’s time to fill them back up.

Don’t like this idea? Some people will instead use prepaid cards or gift cards to shop online while on a cash budget.

6. Store Cash Envelopes in a Secure Place 

Store your cash at home in a secure location

I didn’t carry these envelopes full of cash everywhere I went. That just doesn’t seem safe. Before I made a trip to the store, I took out the money I needed and left the rest at home.

I stored the envelopes in a small container along with my receipts for the two-week period.

Important: There were no coins in these envelopes! I rounded up purchases to the nearest dollar to keep things simple. The loose change went into a separate piggy bank.

7. Keep Some ‘Forgot My Envelope’ Money

Cash envelope system: Forgot my envelope money

What happens if you forgot to take money out of your food envelope before heading to the grocery store? Turning the car around may not be the most realistic thing to do!


That’s why I kept $20 cash in my wallet no matter what, plus my credit card and a debit card for ATM use only.

I know that many people on cash budgets will think that’s cheating, but I disagree. I still used the credit card for the categories that weren’t part of my cash-only budget.

And when I used the “Forgot my envelope” money, I replenished it as soon as I got home.

Challenge Results! 

I used this cash budgeting system for six weeks, refilling the envelopes every other week. I had $95 left in my envelopes after the first two weeks, $125 left after the second two weeks and $35 left after the third two weeks — $255 total.

Having to count out bills and hand them to a cashier really does make you think twice about impulse buys!

A few people on Clark’s Facebook page have said they’re reluctant to try the cash envelope system because they’ll miss out on credit card rewards, but that didn’t bother me since I saved so much money.

If budgeting with cash reduces my spending by 10%, I’ll gladly give up the 2% cash back from my credit card company.

To recap, here’s my cash budgeting strategy: 

  • Use the envelope method for 3-5 variable spending categories
  • Make a plan for handling online shopping
  • Use a credit card for remaining expenses and pay it off monthly
  • Do nothing with fixed expenses already on auto-pay
  • Track every single cash transaction using a note-taking app
  • Keep $20 on hand at all times in case you forget your envelopes

This article was originally written by Michael Timmermann and published on December 13, 2018.

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