The Envelope System, popularized by Dave Ramsey, is a take on a budgeting system that most people have been following religiously and quite successfully. Find out how you too can use this system to plan and save your money responsibly.
Make a separate envelope for all the change that you accumulate. Count it after a month or two and you'll have a decent amount as ready-made savings.
Income: The money we get for work we do
Expenses: The money we spend on things we need
Necessities: Things that we absolutely cannot live without [the bare minimum include food, clothing, shelter (and today, the Internet)]
Luxuries: Things we can or cannot afford, but still end up spending on, simply because we have the means - plastic money
Debt: What we find ourselves in because we cannot (or do not want to) decipher the difference between necessities and luxuries
Financial Crisis: Which happens when our debts continue to mount due to excessive spending on luxuries
Breakdown (Financial, Emotional and possibly Physical): The result of ever-increasing debt and no means to repay it
These are the probable series of events that you may find yourself in if you're among the millions who have the question, "Where did all the money go?" on their minds at the end of each month, or use "What are credit cards for!" as a retort when asked why they want to buy that unnecessary scarf a golf club.
It may seem very harsh and insensitive to say, but the truth is that most of us avoid facing the reality of the dire straits that our financial lives are in. We want it to seem like we have it all figured out, but the truth is that we're in denial. We deny that we have a spending problem. We deny that we don't like to plan our finances.
We deny that we buy stuff we don't really need. We also deny that we need help. All that ends today! Thanks to the Envelope System that's been brought into the spotlight by Dave Ramsey, you can learn to have your finances control you rather than you letting them flow down the drain (read: swiping that piece of plastic ever so frequently).
Here are some simple steps that you need to follow for a frugal, yet fruitful living. You'll need:
Envelopes (number depends on items mentioned in step 1)
Pen or pencil
Step 1 : Fix a Budget
The word 'budget' has come to have such negative connotations that people simply don't want to use it anymore. A budget is "the money that is available to a person ... and a plan of how it will be spent over a period of time", as per the Oxford Dictionary. It's a seemingly harmless, yet an extremely loaded word.
The first step towards managing your spending is having a plan of how much money you have and how you need to spend it, and not how you intend to spend it. How to do this? First, in the notepad, make a note of the amount of money that is due to come in. Using this as base, make a list of all the assured expenses you will incur until the next inflow of money.
For instance, suppose your income is USD XYZ. From this XYZ, subtract fixed expenses, like mortgage/rent, food, cable, fees, phone, and other bills, etc. If these figures are not fixed, take an upper limit and write it against the item.
Step 2 : Make Envelopes for Each (Fixed) Item
Once you have the breakdown of the expenses, you have to physically divide the money into different sections. Then select an envelope for each item. Write the name of the item at the back along with the amount of money that you're putting in it. Put only the allotted amount into the envelope. Repeat this for all the items on the list and keep these aside.
Step 3 : Make One for Emergencies and Contingencies
Your son hurts himself and you have to rush him to the ER; your car breaks down and you need to have it towed―you can never predict when such things will happen. Hence, it is important to keep some money aside for them. So, mark another envelope for emergencies, and put the assigned amount into it.
Step 4 : Keep Some Money for Fun Aside
After deducting the amount assigned to emergencies, whatever money remains, you can make a call on how much you want to keep aside for yourself, just for fun. You may find your dream purse or the perfect tool kit on sale!
Don't let a money management plan get in your way. Keep an amount aside for such opportunities right at the start, so you know that you can afford it, thus, avoiding the guilt that accompanies impulse shopping. What if the amount assigned is insufficient for this dream purchase? Simple, don't buy it!
Step 5 : Don't Overspend
The success of the Envelope System is solely in your hands. The key to making it work is resisting the temptation to overspend. The whole point of assigning an amount to every single thing that you could possibly spend on is to make sure that you don't overshoot that amount.
So, once an envelope is empty, you know that you cannot afford to spend more money on that particular item. If the money's gone, it's gone. Do NOT steal from another envelope, not even the emergencies and contingencies one (unless the situation you're in fits your description of an emergency or contingency).
Step 6 : Make Way for Savings
If you do abide by all the given steps, chances that you'll have some money left to spare are more than high. How? Well, let's see:
✔ When you make a budget, you're making a promise to yourself that you won't overspend on an item.
✔ As a result, you begin to pay more attention to whether you actually need the item.
✔ If yes, the next thing you look for is whether there are inexpensive alternatives available.
✔ If yes, then great! If no, then you'll begin to look for items that you've included in the list, but the expense of which can be postponed for the time being.
✔ Thus, you have already allotted that amount to the item for the next cycle (so don't forget to add this amount there).
When you do this for everything, you'll realize how much extra money you spend on items that you think you need, but don't.
Be honest with yourself when using this system and you'll see that its effectiveness lies in its freakish simplicity. You allot money to an item, you use it on that item, you keep some aside for a rainy day, and have fun with some.
That's all there is to it. Don't be discouraged if this stringent method doesn't work its magic instantly. Give it a couple of months, and you'll surely reap its reward!