Envelope Budgeting System – How Does it Work?

Do you struggle to control your spending? Do you wish someone would just hand you a wad of cash and say “This is it for the month. Deal with it.”? Well, then read on.

One budgeting system that works for a lot of people is called the envelope system. At the most basic level, you withdraw enough cash to cover expenses for the month, then put the cash into labeled envelopes according to how you spend. That is your spending money for the month. Sounds easy, right?

Create your budget

The first step to setting up the envelope budgeting system is to create your budget. Ideally, you have a set amount for some expenses such as mortgage/rent, utilities, and maybe a car payment. You write down your take-home pay for the month, then subtract those large set expenses we just mentioned.

The amount left is what you have for spending on your other expenses. Your discretionary (spending) money would include things like groceries, gas, entertainment, eating out, club memberships, clothes, childcare and savings.

Tip: If your utility company offers an equal pay program or something where they look at your past bills and then bill you an average, equal amount every month, it makes budgeting easier. What they do is, rather than having bills vary from $15 for gas in July and to $190 in January, you might pay $40 every month. Give them a call and find out if it’s an option they provide.

Assign envelopes

Next, you need to assign each of those categories to its own envelope. The envelopes should be clearly labeled.

They can be paper, plastic, an accordion folder, or whatever system works for you. You can even use an app such as one of those mentioned below (later). A box or two of envelopes from the dollar store works great.

Distribute the funds

Now it is time to put your money into the envelopes. For larger ticket items such as rent or utilities that you pay once a month, you can have that auto-pay from your bank account or write out a check and put the check in the envelope until it is time to pay.

For everything else that is spent over the course of the month, you want to distribute cash to the appropriate envelope. If you have budgeted $500 for groceries for the month, then $500 gets put in the grocery envelope (or $250 after each of 2 pay periods).

Keep a running tally

Oh, did I forget to mention no credit cards or debit cards are allowed under this system? Yup, put them away. You are now a cash-only spender.

On back of the envelope, record how much you initially put in each envelope. As you take money out to spend, record a running balance on the envelope. Once the money is gone (envelope is empty), you are done spending from that category for the month.

The month is over. Now what?

At the end of the month, you will hopefully have a little bit of extra money. Use that money to either

• Boost savings
• Pay down debt
• Rollover to next month for a category that may be larger due to holidays or special occasions
• Celebrate (a little)! Don’t feel bad about treating yourself to a small reward at the end of the month if there is money to spare.

If you went over or ran out of money, then you need to figure out if you need to re-adjust your budget or what spending can be cut. I’ll be honest, the first few months may feel like you are ripping off a bandage, but it will get better.

This system may sound overly simplistic, and it may be. As with any budgeting approach, it has its pros and cons.

Pros

Helps with financial discipline and controls overspending If you know you have only $50 to spend on entertainment for the month, you are less likely to overspend and will seek less expensive or even free options.

No overdraft charges When you use cash, there are no overdraft charges like you might rack up with a debit card.

Cons

Security Cash is easily stolen and there is little protection or freezing of accounts available in this situation. Getting all the cash upfront can be a little scary.

No credit card rewards If you like to rack up credit card rewards to use towards a vacation or holiday spending money, this doesn’t happen anymore with cash spending.

Expenses are rarely very consistent, unexpected expenses can pop up, and the cost of goods tends to rise over time.

Convenience It isn’t as easy to pay online.

The envelope system works best if you need to organize a fairly straightforward financial life and get a handle on your finances. If you are running a business on the side or have a family with kids involved in sports / field trips / parties, this system won’t work as well for you.

There is an app for that

If all of this seems promising but, well, clunky, there are apps available for creating virtual envelopes. These are a few apps I’ve found that use some sort of envelope type of budgeting system. I have not used or reviewed these yet, but many have. They all have either a trial period or a free version, so check them out.

Goodbudget
YNAB (You Need A Budget)
Mvelopes

If you try these, let me know what you think!