Zero-based budgeting is a budgeting method that enables you to account for every penny that comes into your household.
Made popular by Dave Ramsey, the zero-based budgeting method is the most accurate method for managing your money. This method requires you to “give every dollar a name,” as Dave would put it.
Whether it’s giving every dollar a name or giving “every penny a purpose,” the goal is to manage your money better.
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How Zero-Based Budgeting Works
The concept of the zero-based budget it quite simple. Each month (or pay period), your expenses should be equal to your income.
That means that:
INCOME – EXPENSES = $0
Though at first glance it may seem as though you’re spending all of your money—leaving a balance of zero—that isn’t the case.
Some of your funds may be allocated to savings but will be tracked as an expense. Ideally, any funds that you have in excess of your bills would go toward paying off debt.
Advantages of zero-based budgeting
The advantage of zero-based budgeting is that you can see exactly where your money is going. This means that you are more aware of your spending and how it is impacting your financial goals.
How to Create a Zero-based Budget
List your income
The first step in any budget is listing your income. It’s no different in zero-based budgeting. You’ll need to account for all of your income sources and their expected (and later actual) amounts.
List your expenses
Creating a zero-based budget requires you to have a good understanding of the expenses you incur each pay period.
If you’re not sure where to start, I’ve written an article on over 90+ expenses that most households have. Use that as a starting point to create your budget.
Within a zero-based budget, you’ll want to know exactly how much your expenses will be. Any money left after those expenses should be allocated to debt payoff or added to your savings.
Track your expenses
The power of zero-based budgeting lies in tracking all of your expenses. However, this may also be a challenge for some people.
If you aren’t used to documenting all of your expenses, then you’ll need to get accustomed to this step. Though there are that can track your expenses for you as you use your debit card, this method forces you to actually look at your finances.
Manually tracking allows you to see the impact that your spending has on your budget. It also gives immediate visibility to whether your spending above your plan or not.
Allocate excess funds
If you have extra funds after all expenses are paid for, you’ll need to allocate the excess funds. If you’re in debt, these funds should go toward paying that debt off. Otherwise, you may want to put these funds in a high-yield savings account.
» MORE: How to Create a Budget in Excel
Zero-based budgeting example
I’ve created a video tutorial on how to create a zero-based budget in excel that you can view. Nonetheless, here is an example of what a zero-based budget would look like.
In this example, you see that the total income for the month (or pay period) is equal to the sum of expenses.
Even though the income was higher than expected, each dollar was still accounted for. The actual expenses were adjusted to account for the additional income. In this case, some expenses were below expected, allowing for additional funds to be put into savings.
Overall, the zero-based budgeting method is a great way to have visibility to you where your money is being spent. Because it requires that you track your expenses, it also forces you to know what’s going on with your money.
This is the budgeting method that I prefer and would recommend to anyone wanting to get a handle on their finances. Try it and see how it works for you!