The Envelope Budgeting System

The Envelope Budgeting System is an old school method of managing money. You may have heard it referred to as “cash stuffing” more recently, but the principles remain the same. This time-tested practice has helped countless people get a better handle on their personal finances, and is especially helpful for beginners.

The basic idea is to put actual cash into labeled envelopes and only spend money from a specific envelope for what it was intended. The process itself can be a bit cumbersome, especially in today’s age, but that’s by design. We’ll walk through the steps of this strategy to see if it is right for you!

Step 1: Create a Budget

Time for the down and dirty right off the bat! You can create your own budget from scratch or utilize one like the SDB MFC! Do a little digging to figure out what you have spent money on over the past 3 months. Include everything from rent to car insurance to coffee.

There are budgeting apps out there that can assist with this. For first time budgeters, it’s probably best to try doing it on your own to get the real feel for what you are actually spending money on. It’s one thing for an app to tell you that you spent $300 last month on eating out; it hits different when you tally up 8 stops at the local pizza place near your office. 😬

Step 2: Create the Categories

Chances are high that you have already automated some of your expenses, which is great! Things like mortgage, student loans, and the cell phone bill (among others) should be set up for automatic payments out of your checking account so that you never miss a payment.

What we are looking for here are the categories that vary from month to month. Things like groceries, gas, and entertainment (among others) are generally not a fixed dollar amount each month. You’ll want to take an average of each category over the last 3-6 months, then decide what is feasible to spend on that category over the course of a month. You can get as specific or as general as you want with each category, but the more detailed the categories the better the results.

It might look like this:

Curtail yours to incorporate all of your spending. We aren’t playing the needs/wants game here, we just want to get a realistic idea of what we plan to spend over the course of the next month. In the case of the above example (which is over simplified and totally made up), we have a total of $1,200 for our upcoming monthly spend.

Step 3: Create the Envelopes

Using the above example, we would get 7 envelopes and write down the name and dollar amount of each category on each envelope. Once per month (preferably on the 1st of every month) we would take out $1,200 in cash from our checking account and “stuff” each envelope with the aforementioned allocation of cash.

It’s worth noting that technically you can create a spreadsheet and carefully track your spending throughout the month in order to utilize credit cards. That said, it kind of defeats the purpose of this exercise.

Multiple studies have shown that the friction of spending cash instead of swiping cards ultimately leads to less spending overall. That $2 buttered roll at 7-11 doesn’t seem like a big deal, but if you had to break out an envelope from your pocket and have the cashier break a $50 dollar bill? It might cause you to think twice about small unnecessary purchases.

Step 4: Stick to the Envelopes

The most difficult and important part of any strategy: stick to the plan! If you decide to go out to a nice restaurant in the first week of the month and spend $150 on a nice meal, that means we have $50 to spend for the rest of the month. Don’t you dare reach into that grocery envelope on the next restaurant unless you want to go hungry later on!

You don’t have the correct envelope handy for the thing you want to purchase? I guess that means you aren’t buying that thing right now! If you happen to pull up to Starbucks and suddenly realize that you only have your “gas” envelope in the glove compartment, you can either go back home to get the correct envelope or decide to skip the iced latte that day.

Don’t forget, the whole point of this method is to create friction on spending and force you to think twice about purchases. If you happen to really blow the budget on a real necessity (like running out of cash in the grocery envelope in week 3), pull from one of the other envelopes for now (like the clothing envelope) and adjust your spend for next month. It’s ok to mess up a bit early on (chances are high that you will) but do your best to be realistic about the monthly spend on each category.

What if there is money still left in an envelope at the end of the month? Take that money and allocate it to the area that will give you the most value. Usually that doesn’t mean to go blow it on a fast-food run. Instead consider adding that to your monthly allocation towards the emergency fund, or maybe even donate it to your favorite charity. If a particular envelope tends to always have extra money, it’s time to adjust the dollar amount you put in it each month.

There are many pros and cons to this system, some of them more obvious than others. It’s well known that creating friction on purchases will result in less overall spending, but how much friction is too much? Having a plan in place will absolutely help you reach your ultimate goals, but what happens when you completely blow the budget and run out of cash in all envelopes? Hell, the above example doesn’t even have an envelope for car expenses, where is the cash for an oil change coming from?

This rigid but simple structure has helped tons of people get a handle on their spending, but it may not be the right path for everyone.

Pros:

• Simple Structure: It’s relatively simple to set up this plan and actually kind of fun when you get started.
• Tracking Spending: It’s pretty easy to take a peak inside the “coffee” envelope to see if you can swing by Dunkin’ on your way to work. Once the cash runs out, that’s it! There’s no guessing if you ran over budget on any given category.
• No Fees or Interest Charges: Since this method is primarily used with cash only, you’ll never have to worry about accidently triggering an over-draft charge from your checking account or accidentally putting way too much on your credit card.
• Accountability: This method forces you to be accountable for your monthly spend. It also helps with setting realistic goals, and can encourage people to get crafty before deciding to blow the budget.
• Lower Spend: The friction on using envelopes/cash on everything is going to force almost everyone to spend less than they previously were. And that right there is the goal of this whole exercise, isn’t it?

Cons:

• Cumbersome Practice: This system is going to take more time out of your day. We are looking at a minimum of one trip to the bank/ATM, time to fill each individual envelope, and establishing the proper allocation of funds each and every month. Not to mention, where do you keep all these envelopes?
• Carrying Cash: If cash is lost or stolen, it’s more than likely lost forever. The same cannot be said for a debit or credit card. Be very careful when handling cash and only consider safe and secure locations to keep each envelope.
• Rigid System: Of course, you can do whatever you want. We are all adults, right? But for this system to be effective, you really need to do your best to not “borrow” cash from each of the envelopes.
• Not All-Encompassing: This method is really only part of the system of your overall budget. You still need to be building that emergency savings, investing, and paying your mortgage. You’ll need to spend time on the whole equation, this system mainly helps with creating barriers around the things you don’t necessarily value in the first place.
• Time Commitment: As mentioned above, putting this method to actual practice is going to require some planning and time. It can be discouraging to put all this time and effort into the Envelope Budgeting System as well as your overall budget, only to find that you can’t keep within the boundaries you made for yourself. This one is easier to quit than others.

In general, I’m not a big fan of this method. Sure, it’s nice to set up parameters that force you to think twice before spending on a low value item, but the time commitment and carrying that level of cash didn’t do it for me. I tried this early on in my personal finance journey for a couple months, and honestly it wasn’t worth the hassle. I was already pretty head strong about paying down my debt aggressively and was able to cut down on unnecessary spending quite a bit before I tried this out. For me personally, the juice wasn’t worth the squeeze.

That’s not to say this isn’t right for everyone, just not right for me. For newbie budgeters or anyone who consistently has trouble overspending, this can be a great method to get started on the path towards financial independence. Sure, there are plenty of benefits to utilizing credit cards, but nothing makes you hesitate before a purchase more than looking at a cold hard Benjamin before running into a convenience store.

It might sound like I’m bashing the Envelope Budgeting System here. 😂 I promise, that’s not the case. We all have two main currencies to play with, time and money. I could see how the time spent on this method could be extremely beneficial for some, and maybe not so much for others.

Remember, the ultimate goal here is to add more value to your life! If you consistently have trouble with overspending, then don’t knock this strat till you try it! Spending less on the low value items will create more room for the things you love!

Stay classy Solos! ✌️