What is a Zero-Based Budget?

What is a Zero-Based Budget

A zero-based budget operates on the goal that every dollar that you bring in every month is accounted for and assigned, so that there is $0 left over at the end of the month. You’re encouraged to assign every dollar of your income to paying a bill, saving for the future, or setting aside a set amount for something fun for yourself.

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The budget resets back to $0 at the beginning of every month so that there is nothing that carries over. If you come in under budget in one category and have cash left over, add the amount to the following month’s budget so that it can be appropriately used. Every dollar of monthly income is allocated to expenses, savings, and debt payments. A zero-based budget eliminates financial uncertainty and helps you to understand where your money is going.

How to Make a Zero-Based Budget

Creating a monthly budget can seem like a daunting task at first, but a zero-based budget can be put together in a few easy steps. It may take you a few attempts for the numbers to work out, but once you get it figured out, you should be good to go.

• List your monthly income. If your income is consistent, this step should be easy. If you have a job where your income fluctuates due to the number of hours worked or because some of your income is based on tips, this may be a little more difficult to achieve. You may want to start with a conservative estimate and adjust every month.
• List your expenses. Consider all the different places that your money goes: rent, groceries, transportation, utilities, restaurants, and more. List out all your expenses as categories that make sense for you and your spending habits and total up how much money you spend in each one every month. You may be surprised by where your money goes!
• Subtract your total expenses from your total income. Add up all your expenses for the month and subtract that total number from your total monthly income. If you’ve set up your zero-based budget correctly, the result should be zero. Don’t worry if you don’t get the math right on the first try. You may have to move some money around in order to achieve a zero balance. If you have too much leftover cash, consider an emergency savings fund, or setting up a travel fund. Saving for retirement is always a smart idea.
• Track all your expenses, all month long. This can feel like a tedious process when you’re getting started. By tracking every purchase, no matter how small, it can give you a better idea of where your money is going, and if you need to adjust your zero-based budget for the following month.
• Make a new budget for the next month. Take a look at the previous month’s purchases while making decisions about how to allocate your income for the upcoming month. If you allotted $200 for going to restaurants and had $50 left over, consider putting that $50 to work paying off debts or saving to reach a goal. Remember that your goal is to have $0 that isn’t accounted for in your budget.

Pros and Cons of a Zero-Based Budget

If you’ve tried other kinds of budgeting strategies before, adjusting to a zero-based budget may feel like a lot of work. Similarly, budgeting newcomers can expect a certain amount of growing pains when putting together a zero-based budget for the first time. As with all budgeting options, there are pros and cons.

Pros of a zero-based budget

• You must justify all your expenses. Since you’ve allocated a specific amount each month to a specific goal or category, you’ll be aware of how much money in that category is left over and if you’re approaching your spending limit. There’s no borrowing from other categories in a zero-based budget.
• It forces you to understand where your money is going. By adding up your receipts, you may learn that your online shopping habit is putting you in the red and cause you to adjust your spending habits for the next month.
• A zero-based budget can keep you from spending more than you make. If credit card debt has caused you to struggle in the past, this type of budget can help you rein in your spending because you’ll be keeping a more careful eye on your purchases.

Cons of zero-based budgeting

• The initial setup of a zero-based budget can feel like a headache. Creating the categories and setting aside the right amount of money each month can be a frustrating process with a lot of trial and error.
• If you’re not already in the habit of tracking your expenses, this can be a task that is difficult to master. Saving receipts and subtracting expenditures from a pre-defined total can seem like a lot of extra work.

Example of a Zero-Based Budget

If you’re interested in setting up a zero-based budget for yourself but don’t know where to start, here’s an example. Assume that you take home $3600 every month on your salaried job. You have a few monthly bills that are always the same: your rent, your cell phone, car insurance, and your internet. This is a great place to get started because you can easily subtract these known static costs from your monthly income. If you have a student loan or car payment to account for, these are other known expenses that would go into your zero-based budget.

When you’re thinking about other expenses that may vary, look at how much you’ve spent in previous months. Your power bill may fluctuate based on whether you’re running the air conditioning, but many power companies may allow you to pay a set amount every month based on past usage. If you’re looking to eliminate a variable, this can be a great idea.

Here’s an example of a zero-based budget breakdown. Remember that the goal is to have $0 left after creating the budget and that you can adjust your spending every month to account for things that may change in your life, like getting a pet, or biking to work instead of driving.

• Income: $3,600/month
• Rent: $1,600
• Utilities: $300
• Groceries: $350
• Cell Phone: $100
• Insurance: $250
• Credit Card Payments: $300
• Retirement: $200
• Entertainment/Dining Out: $350
• Travel Fund: $150
• Remainder: $0

A zero-based budget is an effective method to help you assign a role to every dollar of your income. All of your income minus your monthly expenses should equal zero. While initially putting a zero-based budget together may be tricky, it’s a versatile budgeting strategy that can help you to spend responsibly and save for the future.