What is a Zero-Based Budget?
It is very much as it sounds.
A Zero-Based Budget is a budget where your income minus your budgeting expenses equals zero.
The aim of this type of budgeting is to ensure that every penny that you earn is given a ‘job’ in your budget and is put to work in some form or another.
It is important to note that this does not mean that you will be left with zero money in your bank account every month but every penny in your account will be assigned to a certain purpose.
In simple terms it means if you take home £2,000 a month from your job, then the total sum of all your expenses in your budget will be £2,000 also.
One of the main benefits to this type of budget is that you know where all of your money is going every month and won’t be left wondering where it all disappeared to leaving you with no money at the end of every month.
How to make a Zero-Based Budget
There are a couple of key steps to creating a Zero-Based Budget.
Understand what you earn: Go back through your past three to six months of bank statements and work out what your income actually is per month. Without knowing how much you earn each month you will not be able to budget.
Understand what you spend: In the same way as working out what you earn every month you also need to understand what you spend every month. Go back through your previous months bank statements and group up your expenses into as many clearly defined groups as possible. Try and break them down to their individual parts where possible, so rather than creating one big number for bills, break them down into their individual parts (gas, electricity, water, etc) – This will make it easier to see where savings could be made, rather than having one big meaningless expense.
Understand your seasonal expenses: These are things like Christmas, holidays, birthdays, Car MOT, etc. These will be expenses that don’t occur on a month to month basis but that you will need to save up for when they do come around. Work out how much you spent on Christmas last year and how much you want to spend on it the next year and break that number down by 11 to give you your monthly cost. You will need to budget for and save this money monthly so that you have it available when these seasonal events come around.
Subtract your expenses from your income: Now that you know what you earn and what you spend you can subtract one from the other. Hopefully this does not take you into a negative number, if it does then you need to make changes to your lifestyle to save money to ensure you get back to zero. If you have more money coming in than you spend then you need to assign a job to this extra amount as everything needs to be budgeted to bring us down to zero. You may use this extra amount and assign it to savings, to overpaying your mortgage or to repaying credit card debts – most importantly, it must be used for something!
Learn & Optimise: After the first 2-3 months of running this system you should find yourself in a much better place with a much clearer understanding of your findings. At this point you can look to ensure that you are always reaching the zero-sum and if you are struggling month-to-month you can analyse your budget to find areas to make savings. It can also help you with pay-rise negotiations in work or when looking for a new job as you will know the amount you need to be earning to improve your position.
Tips for Zero-Based Budgeting
Here are a couple of my quick tips for making your Zero-Based Budgeting more effective:
- Overestimate on variable expenses: If you found that your grocery shopping amount for the past three months varies, take the highest amount from those months and use that number in your budget. The applies to all other variable expenses. You are better budgeting for the higher amount and having the money available than budgeting for the lower amount and not having enough.
- Stay on top of expenses: Every week make sure you continue to track and monitor your spending. This is not a set and forget it exercise, you need to monitor your progress against your budget. It could be as easy as keeping receipts and checking them weekly – or do a fortnightly analysis of your bank statement against your budget to avoid anomalies.
- Accept your mistakes: Getting this process right first time is near impossible. You will make mistakes with your budgeting in the first couple of months. Understand that you may get caught out by a payment but you simply need to adjust your budget accordingly going forward and accept the mistake. Over a period of time it will all iron itself out.
I have always been good with money – I budget well, avoid making impulse purchases and attempt to adopt a frugal lifestyle as much as possible. I love to share my personal finance tips with you to help you achieve your financial freedom as well.