Many people shy away from budgeting. They view it as a restriction on how they can spend their money, but the truth is that a budget is your biggest asset when it comes to building wealth. When you start controlling where your money goes each month, you maximize your opportunity to obliterate debt and start building serious wealth.
One budgeting tool that works wonders for helping people to pay down debt faster and build wealth faster is the zero-based budget. A zero-based budget is, in summary, a budget whereby every dollar of income that comes into your house is given a job to do. Your money is given a destination before it even hits the bank account, helping you to minimize money waste and maximize wealth growth.
Also called a zero sum budget, the zero-based budget will help you determine what expenditures in your life have true value, and what expenditures are a product of oblivious spending or a lack of planning. Because all of your expenses are planned before your money hits your bank account, a zero-based budget can help you avoid the budget leaks that destroy so many peoples’ opportunities to achieve financial independence. Today we’ll talk about how a zero-based budget works, and how you can custom design your own zero-based budget to fit your unique spending and savings goals.
Your personalized zero-based budget
As I mentioned earlier, one of the great things about a zero-based budget is that it allows a person to customize their money management in a way that best suits their individual wants and needs. Let me show you how it works.
A zero-based budget starts by listing your monthly take-home income. For example:
October 2016 budget
The goal of the zero-based budget is to determine how much money you’ll have coming in each month (in net dollars) and then to assign a job (or a home) for each of those dollars. After you’ve calculated your expected income for the month, your job would be to determine what bills and expenses are due for the month and to assign a goal for any remaining money as well.
Financial goals come first
Before you determine where your money will go, it’s important to decide (on your own if you’re single, with your spouse if you’re married) what your financial goals are. By determining what your financial goals are, you help to find a place for any extra money in your budget.
It helps when deciding what your financial goals are to pick some short, some medium and some long term goals. Here’s an example:
Short-term goals (can be achieved in less than six months)
- Create and stick to a zero-based budget each month
- Increase 401(k) contributions up to five percent
- Increase savings rate to 5% of take-home pay
Notice that your short-term goals can be accomplished quite easily and require little time to implement. Now I’ll share some examples of medium-term goals.
Medium-term goals (can be achieved in six months to three years)
- Save $5,000 for an emergency fund
- Save $4,000 for an international vacation
- Pay off $7,000 credit card balance
Your medium-term goals will require some time and effort but should allow you to see progress relatively quickly. Here are some ideas of long-term goals.
Long-term goals (take three or more years to achieve)
- Save for a 20% down payment on a house
- Pay off all debt
- Save twelve months’ of income in an emergency fund
Once you determine your financial goals, you can direct the income on your zero-based budget with more precision. Using the income numbers listed above, let’s now make up a fictitious zero-based budget.
October 2016 budget
October 2016 Income
October 2016 Expenses
You now have a remaining balance after you’ve added up expenses. The remaining balance after you subtract expenses from income is $455. Now you’ll create additional lines in your budget to give a home to that $455. Those additional lines will include monies to help you reach your financial goals, and will include any extra expenses that might not normally occur during the month. Here’s an example.
|Extra money toward debt||300|
|Extra money toward savings||100|
|Money for football game||55|
The goal is to make sure when planning each month’s budget that every dollar is accounted for and that there’s no extra money at the end of the month that doesn’t have an assigned job. By using a zero-based budget you can maximize the impact your earning dollars have on the achievement of all of your financial goals.