The envelope system is an old-fashioned budgeting systems that is simple yet still effective for helping you control your spending. With this system you physically store money in envelopes dedicated to different monthly spending categories. After each paycheck, you cash out your money and divide it up across each of the different envelopes. As the month progresses, you spend only the amount of money that is in the envelope for each category.
The rationale for this is quite simple: we live in a world of digital communications, digital monetary transactions, high credit card limits, and bank accounts that are used more through apps than banks. This reality can often make it difficult to exercise discipline in personal spending habits when everything is just a click away from possessing. By using physical envelopes and cash, we return our money to the physical world in a tangible sense and regain a feeling of control. Perhaps more importantly, we stay connected to the feeling of loss that comes with spending cash and watching an envelope drain.
How it Works
The areas of our budgets that generally benefit most from the envelope system include things like groceries, gas, dining out, entertainment, gas, and clothing. This is because each of these categories tends to fluctuate each month and many of them are discretionary categories that can benefit from the added self-discipline that comes with using the envelope system. You may need to consult with your significant other if you are both involved in financial decisions. You can always delete or create categories as needed to craft the perfect envelope system for your personal budget needs.
A few sample categories to consider include:
- Car Maintenance
- Makeup & Hair Care
- Entertainment & Movies
- Gifts & Family Events
- Dining Out
Calculating Your Total Budget
Rather than starting with the total amount you make each month, instead look at what you actually need (and need is the operative word here, not want) to spend each month for each relevant category. For example, do some math and some meal planning, and determine how much you need each month to feed your family in terms of a grocery budget. Evaluate how much driving you do each month in each vehicle and calculate a reasonable fuel budget. If you have certain discretionary spending categories that tend to get out of control each month, it is time to put a lid on those by establishing a realistic limit on each category.
Next, create, label and fill envelopes for each category. For example, if your fuel budget is $200 for the month, when you receive your first of the month paycheck, you would take $100 and put it in the envelope labeled “fuel.” At the mid-month paycheck, you would take another $100 and put it into the same envelope for the next pay period. You would then repeat this process for each budget category.
The Goal of the Envelope System
The goal here is to prevent unnecessary spending in each category, and ideally, to create surplus by living below your means and spending less than you earn. You can then use the surplus in the budget to pay off credit card debt, student loans, car loans, and mortgage debt. This will in turn eventually free up the cash that would have gone to each of those monthly bills to be spent on paying down other debts, until you become debt free.
Rule Number One of the Envelope System
The primary rule of the envelope system is to never spend more in any category than the amount in the envelope. This serves to keep you on track to reach your financial goals and prevent you from spending on impulse buys, by improving self-discipline.
More Month than Money?
This is where the self-discipline comes in. Remember rule number one? Never spend more money than an envelope contains. If you think you may run out of grocery money, get creative with your meals and try to stretch the budget to make it last to the end of the month. If you run out of gas money, you might need to carpool or consolidate trips to reduce your spending. The idea here is to reign in your spending and keep each category under control. Of course, if this happens every month, you may need to adjust your system accordingly. But the general rule should be to stay within your budget each month for each category.
What About Emergencies?
Ideally, you should have an emergency fund that exists solely for this purpose. You could actually create a budget envelope and add a small budget each month that is specifically for emergencies. However, if you have not been able to do this yet, you may need to shuffle money around or reduce the amounts on each envelope to cover the emergency costs. If this becomes necessary, it is important to call a “budget meeting” and discuss the ramifications and decision-making process with anyone else involved, such as a significant other or affected family members.
Overall, the envelope system can be a very helpful tool in the fight against debt and uncontrolled spending. Use it wisely, and you could be well on your way to reaching your financial goals and even potentially becoming debt free.