Spending your money is a funny thing. Sometimes you get into a negative spending habit without even realizing it. Let's say you stop and get a small coffee every morning before work. That alone can become costly over time. But it's OK. It's your normal routine. You might not know precisely what you spend on coffee per month; all you do know is that it doesn't seem to be affecting your finances that much. So next month you decide to start getting a large coffee instead, and that becomes your new normal.
Your purchasing pattern represents an incremental increase from the old cost without any more in-depth analysis of how your choice is truly affecting your budget.
This is an example of the traditional budgeting mindset. There's another method for working out your personal finances that takes a different, more detail-oriented look at your spending. It is called zero-based budgeting.
What is Zero-based Budgeting?
Zero-based budgeting, or ZBB, is an alternative budgeting method that many businesses employ as part of an overall cost-saving strategy.
At the beginning of every new period, the company starts its budget at square one. Instead of basing it off the previous period's numbers, they analyze all their costs from the ground up without making any financial assumptions, as if they were making their budget for the first time.
Budgeting this way provides cost savings on two different fronts. It prevents the company from adding an automatic and incremental increase to their budgetary items, which will keep rising period by period, much like our coffee example. It also forces the business to examine its operations on a minute level, allowing them to spot wasteful or redundant expenses more easily.
Beyond that, zero-based budgeting makes financial decisions transparent. Using this method, no expenditure, cost, or investment can remain hidden for long. This transparency, in turn, allows the company to make quicker and more meaningful financial decisions when all its cards are on the table. It can respond with more agility to shifts in the market because there is a renewed transparency and accountability over its assets.
How Can Individuals use Zero-Based Budgeting?
ZBB might have started as a corporate financial model, but the same principles can easily be applied to your personal finances as well. There is no significant difference between zero-based budgeting on a corporate level and ZBB on a personal level. For an individual, it's just a matter of changing their way of thinking about personal finance.
To return to our coffee example, the switch to large-sized coffees every morning represents an incremental budgetary increase over the previous period. It might not seem like a high cost, but if we apply some simple math, it turns out to be quite a significant difference.
Let's say the small-sized coffee is $1, and the large size is $2. If you get a coffee every day, you're spending increased from $30 per month to $60 per month. With this type of budgetary philosophy, it's only a matter of time before the next incremental increase occurs. Maybe next month you start adding a doughnut every morning, and your costs begin to spiral out of control.
By employing a zero-based budget each month, you would understand the toll that your habitual spending is taking on your finances. The costs would be readily apparent.
How to Begin Using Zero-based Budgeting in Your Household
Using a zero-based budget in your personal life is as easy as making an effort to change the way you approach your finances, a willingness to embrace transparency, and the time and attention necessary to analyze the details.
Start by reserving a month to keep track of your spending meticulously. That means saving all your receipts so that you can analyze them at month's end. You don't have to alter your spending behavior yet, just keep better track of what you do buy.
Next, sit down at the end of the month and analyze everything. Your recurring bills, your disposable spending, your emergency funds. Then compare those costs to your income. It helps to use a reliable tool like a downloadable monthly budget sheet to keep track of everything. You will begin to see your unnecessary or redundant costs become readily apparent.
After that, the choice is up to you whether or not you act on potentially cost-saving opportunities. Using zero-based budgeting will at least arm you with the necessary knowledge and insight to better make your money work for you.