What is zero-based budgeting, and how can I use it?
What is zero-based budgeting? Learn the ins and outs of a zero-based budget and give every dollar a job.
Zero-based budgeting assigns every available dollar to a particular program or project — and it’s become popular for personal budgeting for that reason. Allocate every dollar to a spending or saving category with zero-based budgeting and work toward your financial goals.
What is a zero-based budget?
A zero-based budget is an exceptionally detailed approach to budgeting that determines where every dollar will go. What makes it zero-based is that the difference between planned income and expenses is zero. With a zero-based budget, your income must equal your expenses every budgeting cycle — no leftover money or deficits allowed. It should also start over at zero with each new cycle, such as every month or financial quarter, instead of adding unassigned revenue increases. A Texas Instruments manager developed the approach in the 1970s with government and business settings in mind to establish greater efficiency and accountability.
What makes a budget a zero-based budget?
Traditional budgeting focuses on future spending, while zero-based budgeting considers past and future. What sets zero-based budgeting apart from conventional methods is that it can help businesses and households increase accountability and discover cost savings opportunities. Along with revenue increases, zero-based budgeting identifies costs — and ties every dollar to a purpose.
What are some key components of successful zero-based budgeting?
Look for these key features in an effective zero-based budget:
- A column for budgeted spending and another for actual spending.
- Little or no difference between budgeted and actual spending.
- A bottom line showing the remaining amount as $0.00.
- A long list of categories that specifies every type of expense.
- Recurring cycles of months or financial quarters that each start fresh.
How to get started with a zero-based budget plan.
To implement this planning strategy, learn what someone will need to get started. Follow these steps to build your zero-based budget:
- Calculate your monthly income. Your monthly income is what you build your zero-based budget on. Knowing how much is coming in each month tells you how much you need to allocate.
- Log your monthly expenses. Add everything you spend in a month. It’s helpful to categorize and then subcategorize. For example, start with fixed monthly expenses — rent or mortgage, car payment or insurance, subscriptions, loans, phone bill, utilities, internet, and so on. Then identify your living expenses — groceries, pet expenses, gas, and so on. Allocate your income to these categories. Keep going until you’ve categorized everything you’re spending on.
- Move on to your long-term expenses. What upcoming costs can you start planning for now? Holiday shopping in December? A vacation in February? A house down payment in five years? Write down how much you plan to spend on these upcoming expenses, divide by the time you have until then, and that’s your monthly budget allocation.
Set your budget with a zero-based budgeting template.
You can use a simple spreadsheet template to set up your zero-based budget. Include a heading at the top that describes its purpose, a summary of income and expenses, columns for allocated income and actual spending, new rows for each spending category, and room at the bottom to calculate the balance or another column at the right to calculate variance.
Here’s a basic example:
Allocate your income to all of your established categories until you get it down to zero. The goal is to fill your categories so that you can plan ahead.
Build your zero-based budget with a PDF template in Excel, by hand, or with the assistance of a budgeting app to get on track.
The pros and cons of zero-based budgeting.
There’s more than one budgeting method for a reason. Consider the advantages and disadvantages to determine if a zero-based budget is the best way to achieve your goals.
What are some of the advantages of creating a zero-based budget?
Many organizations and households use this method because it:
- Encourages accountability
- Helps allocate resources more effectively
- Helps lower costs
What are some disadvantages of zero-based budgeting?
Consider some of the challenges or limitations associated with this method. This method can:
- Require a larger time investment
- Require more work and frequent updates
- Focus on short-term goals rather than long-term
More resources on budgeting.
After learning about zero-based budgeting, find additional resources on budgeting here:
- Learn how to create a weekly budget template.
- Understand what a cash flow budget is and how it’s defined.
- Learn how to create a budget planning worksheet template.
- Learn about annual operating budgets.