How To Use The Envelope Budgeting System: Step-by-Step Guide

by Jalen & Sarah Bromley

Do you ever feel like logging into your bank account and seeing all the money sitting there ready to spend at a moment’s notice is just too tempting? The envelope budgeting system could work perfectly for you — ditch your bank cards and go back in time by managing your cash using the humble envelope.

We’ll run through everything you need to know to try out envelope budgeting in this step-to-step guide, including our top tips, how to make a digital system, and pros and cons.

What is the envelope method of budgeting?

The envelope method of budgeting (sometimes called cash stuffing) is simple. As with any budgeting system, the principle is to give every dollar you have a purpose. Decide how much you can afford to spend, and what you plan to spend it on.

But instead of doing this through the usual spreadsheets or written calculations, the envelope method favors paper.

Each envelope represents a category within your budget, with its own maximum spending threshold. You’ll put the designated amount of money in each envelope — and whenever you want to buy something, you’ll take it out.

You can use “digital envelopes” if you prefer. The most important part of the envelope budgeting system is limiting your spending in different areas (and sticking to those limitations).

How to follow the envelope budgeting system

Now that you have a brief overview of what the envelope budgeting system is all about, let’s get into the details. 

Identify categories

As with any budgeting system, you need to start by figuring out where your money is going each month. You need to come up with the spending categories for your envelopes — and the system won’t be as effective if you assign everything to “miscellaneous.”

It helps to review your bank statements for the past few months to piece together what you’re spending on typically. Common examples of categories include:

  • Food
  • Rent
  • Other fixed expenses (e.g., insurance, phone utilities)
  • Transport (including petrol)
  • Entertainment 

As a student, you’ll likely also need to put some money aside for your tuition fees. It’s tempting to skip “non-essential” entries like entertainment, but you need to allow yourself a few luxuries for your own sanity. Having an overly ambitious budget can result in you abandoning your budget altogether!

Assign the amounts

The most important part of a good budget is knowing how much money is coming in — and making sure it’s higher than the amount you spend.

Start by working out your monthly income. This should be easy enough if you have a job with a monthly salary, but if your income is variable, you may want to include a conservative average of your monthly earnings over the last six months instead. Don’t forget to add additional income sources if applicable, such as a side hustle, scholarship money, or an allowance from your money.

While checking your account statements to see what you spend your money on, note how much you spend. This will be easy to work out for fixed expenses, such as rent, where the same amount goes out of your account each month. But watch out for areas where we tend to fool ourselves. 

For instance, you might tell yourself you only spend $50 weekly on groceries since that’s all your weekly shop costs. But what about all those extra trips to the shops for snacks?

Once you’ve allocated your entire monthly income across your budget categories, write the category and corresponding income on each envelope.

Spend the money

Then, the only thing left is to start spending. Every time you want to buy something, take money from the envelope of the relevant category and use it for your purchase. Many people keep a tally of what they’ve spent on the back of the envelope.

This step is easy in theory but can be tricky in practice. You’ll need to be mindful about what you’re spending, or you could forget to use the money from your envelopes and revert to card payments instead.

In an ideal world, you’d anticipate what you’ll spend each day in advance and take that exact amount of money from your envelopes when you leave the house. However, the reality is that you’ll probably need to estimate a higher amount and update the envelopes when you get home. For instance, if you’re going grocery shopping, you could take $200 with you — and if you actually spent $180, you’d return $20 to the envelope.

For this to work, you’ll need some discipline!

How to adapt to a digital envelope budgeting system

You only have to make some small adjustments to the envelope budgeting system to make it work digitally. 

Many digital savings accounts allow you to create various subaccounts within your main account to represent different budget categories. Then, you can transfer the right amount of money to each subaccount at the start of the month. Sometimes, you can allocate bill payments to specific subaccounts, resulting in less admin. Otherwise, you have to keep an eye on your accounts to ensure expenses come out of the correct “envelope.”

Advantages of the envelope system

It’s not necessarily the most practical system to fiddle about with envelopes and dollar bills every time you spend — but it can help you to develop the habit of being mindful about your money. If you know that you have to take dollar bills out of an envelope every time you buy something, it feels more real than swiping your card and avoiding your banking app.

Plus, the act of counting out your money and allocating it at the start of every month soon becomes a ritual that makes you better at managing your money.

Most of us can agree that there’s something inherently satisfying about seeing a visual representation of how we spend our money. That might sound like a trivial perk, but human brains simply aren’t wired for numbers on a screen and digital bank accounts. When we have to physically take money out of an envelope and see how little is left after, it has more impact on us. Studies back this up — we’re more likely to overspend when using credit cards instead of cash. 

Downsides of envelope budgeting

The envelope budgeting system works well for many people, but there are some potential disadvantages too.

Perhaps the greatest is that this method can be impractical, especially if you’re using physical envelopes. You can’t exactly take all your envelopes with you everywhere you go if you have hundreds or thousands of dollars in there. And if you just put a small amount into your wallet and correct things when you get home, it’s easy to miscount or misplace your dollars.

It takes more work to track your spending when you use cash, and you’re more likely to make mistakes.

Plus, holding everything in cash means losing out on the opportunity to earn interest.

Fortunately, there are alternatives. Some people prefer to use budgeting apps that favor a simpler budget, where you can simply set spending targets for different categories.

Tips for budgeting 

Before you start up your envelope budgeting system, here are a few tips to keep in mind.

Don’t forget to be consistent

You don’t need to do anything special to make your envelope budgeting system work, but it’s often the basic things that trip people up. If you justify spending $20 more than you allocated on one category because it’s “just $20,” you can soon end up hundreds over your budget. 

Or worse, you could get lazy about tracking exactly what you spend because you don’t have time to take the money out of your envelopes and keep the record (physical or digital).

By simply being consistent and sticking to the system, you’ll get results. If you find this more difficult than anticipated, consider embarking on envelope budgeting with a friend so you can hold each other accountable.

Prepare for unexpected expenses 

It’s great to have a system, but the best planning in the world can’t prepare you for every possible scenario. Sometimes, external events will pop up, so we have to be prepared to adapt.

You don’t have to build these unexpected circumstances into your budget, but you should build a separate emergency fund to help. This way, if suddenly you need to buy a plane journey home to attend a funeral, you don’t have to beat yourself up for not sticking to the “travel” part of your budget. Instead, you can just take the money from your emergency fund (though make sure you save up to top it up gradually after).

You can make the envelope method even more motivating if you use any extra money you save on a guilt-free treat for yourself. Although, if you haven’t yet filled your emergency fund or you’re not saving anything, you might prefer to use the money on this instead.

Finetune the system over time

Among Americans who don’t have a budget, 24% say the reason is they don’t think they’ll stick to it. But while it’s important to be consistent, you don’t need to stick to the first budget you set yourself. There’s a good chance that you’ll need to make tweaks over time.

If you notice that you slightly overspend on transport every single month, you may need to increase the allocated spending in that category. Likewise, if you feel like it’s easy to keep spending within the amount allocated in one category or you often save money,  you might want to see if you can be a little more ambitious.

Seal the deal

The enveloping budgeting system offers a mindful approach to managing your finances. Whether you favor the convenience of the digital approach or want to run your hand through those dollar bills, creating a routine and system around your finances can be very helpful. Just remember to stay consistent, adapt your system when needed, and prepare for emergencies.

Whether you think the enveloping budgeting system would work for you or prefer to try a different method, never stop optimizing your finances. Frugal Student is filled with tips for every aspect of student and financial life, so check out the rest of our articles for more advice.

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