The zero-based budgeting (ZBB) technique encourages people to allocate every dollar of their earnings to various categories to give them more transparency into their spending habits and take more ownership over their finances. It’s popular with large corporations and small businesses as well as with households and individuals.
What is Zero-based Budgeting?
Zero-based budgeting is a method that encourages a budgeter to allocate every single dollar to monthly expenditures like spending, savings, household goods, charitable donations, and debt. The name comes from the fact that you theoretically have “zero” dollars at the end of the month because every penny is accounted for in your budget.
Many personal finance apps or other budgeting strategies, like the envelope method, use a process very similar to ZBB.
What is the Benefit of Zero-based Budgeting?
By requiring you to evaluate your budget each month, the ZBB method requires all expenses, including one-off, recurring, and set expenses (like rent), to be captured and given a purpose.
While this may sound time-consuming, you gain a true understanding of your finances and become actively engaged in knowing where your money goes. Implementing the method also forces you to take a look at your habits. For example, do you really need to put $50 in the “Movies” category each month if you only go to the theater once or twice a year? Ultimately, you get more clarity on where your money goes and can refine your strategy to reflect your priorities.
What is a Zero-based Budgeting Approach?
With the zero-based budgeting approach, you aren’t using your standard budget template and justifying new expenses. You’re starting fresh each month. The ZBB approach means a user is budgeting their earnings down to “zero.” If you get to the end of the month and some of the categories still have remaining funds, you can move the money around to another category like savings or debt payments.
Zero-based Budgeting Example
So, what does ZBB look like in practice? Let’s say you make $3,500 a month and abide by the 50/30/20 guideline, meaning that 50% of your earnings go to needs, like rent, groceries, and gas, 30% goes toward wants, like new clothes or dining out and 20% goes toward debt repayment and savings. Here’s what each line item in your zero-based budget might look like the first time:
In this budgeting system, your necessities add up to $1,750, your wants are $1,050 and you have $700 for debt and savings. If you have excess amounts at the end of the month, you can add that amount to next month’s budget or move the extra money into savings.
How Do You Start a Zero-based Budget?
To start the process, get to know your finances. Take a month or two to understand how much money you’re bringing into your bank account and track your spending to see where that money typically goes. Take note of where you might be spending a little too much (like restaurants and take-out) and where you could add more funds (like savings).
Finally, think about your financial goals and what’s important to you. Love reading? Include a budget line item for books in your zero-based budget. Going on a trip next year for your best friend’s wedding? Add a “savings for future travel” category. Hoping to buy a house in the next few years? Create a category for saving for the down payment.
Once you have your categories set, begin the budgeting process. It may take a few months to get the hang of implementing ZBB, but once you do, it will be easier to allocate your earnings and you’ll grow more confident with your bigger financial picture.
Who Uses Zero-based Budgeting?
ZBB is a common accounting method for companies and other professional organizations because it requires departments to justify their expenses before being added to the yearly budget. Its widespread use, along with its simplicity, also makes it a helpful strategy for families and individuals to adopt.
Zero-based Budgeting vs. Traditional Budgeting
With a traditional budgeting system, you typically have a set budget that stays pretty much the same from month to month. If you budget $300 for groceries, for example, that amount will remain constant. With ZBB, you must review new and old expenses each month and make the numbers work. You can see any fluctuations and make decisions on any tweaks to make going forward. For example, you may realize that you budget $300 for groceries every month, but only spend $250. You can then decide to allocate the extra $50 to another category next month instead of continuing to keep it set aside for groceries.
Pros and Cons of Zero-based Budgeting
Zero-based budget pros
- Zero-based budgeting gives budgeters more transparency into their spending and more control over their finances.
- It’s also flexible. With this strategy, you can allocate money however works best for you and your family.
Zero-based budget cons
- Zero-based budgeting can be time-consuming. Making a new budget every month and allocating every dollar to specific categories takes more effort than other “set it and forget it” budget methods.
- If you have widely fluctuating income amounts each month, this may not be for you. When your paycheck changes from month to month, it can be more challenging to create a zero-based budget that works.
Whether you choose to go with the zero-based budgeting method or any other budgeting options out there, RISE can help you build better money habits. Check out our free, interactive tools for setting savings goals, tracking spending, and managing debt.