People from all backgrounds and income levels use budgets. They help keep your spending in check and make saving more attainable.
But what are the different types of budgeting? We’ll look closer at seven popular methods you can use to create and manage your budget. Here’s a brief rundown: 1. Line-item budgeting.
1. Line-item budgeting
The line-item budget is an accounting method that includes a detailed breakdown of expenses and income. It shows how much you expect to spend on each category of expenditures, including recurring costs such as utilities and insurance. It also allows you to project how much you will spend next year based on the current expense trends.
This type of budgeting is a popular choice for businesses that have to make significant capital investments and want to see how it will impact their financials. It is easy to use and an excellent way to track expenses.
It can be difficult to use a line item budget if your business is increasing because it will require more historical data than usual. Other budgeting methods can help you keep your business financially stable despite significant growth.
A line-item budget will include columns for several categories of expenses and compare them with the same column from a previous year. This helps show the trend of expenses, so if your expense is higher than expected, it will be easy to determine why and how to correct the problem.
Line-item budgets are usually prepared month-by-month and can be used to help curtail expenses if they are straying far from projections. However, they are limited in only including expenses – not revenue. That can be problematic if your manager notices your expenses are over budget but doesn’t know why. It may be because you’ve added employees, for example. Or it may be because you attended a trade show and are reaping the rewards of new leads.
If you want to avoid the problems of using a line-item budget, consider using a value proposition budgeting methodology instead. It will allow you to calculate the cost of an activity based on its perceived value to the company. It will also ensure your expenses don’t get out of hand, pushing the company into a loss. But be careful because sometimes you will have to cut things that are important to the company’s long-term health to save money in the short term.
2. Proportional budgeting
Budgeting is essential, whether it’s to ensure you’re spending less than you earn, to prepare for financial life’s curveballs, or to fund your dreams and goals. Many people, however, struggle to create and stick to a budget because they find it restrictive and overwhelming. It’s important to know that budgeting strategies and tools are available that cater to different personalities and approaches to money.
Proportional budgeting is a popular method for dividing your income into categories that reflect your priorities and lifestyle. The most common method involves splitting after-tax income into three categories: 50% of your income goes to essentials like housing, food, and transportation; 20% is dedicated to paying off debt and saving; and 30% goes toward “fun money” like entertainment and shopping. The beauty of proportional budgeting is its flexibility, as you can customize the percentages and amounts of each category to your needs and preferences.
Another approach is value-based budgeting, which helps you track and prioritize expenses by establishing a list of your most essential values. Then, you can allocate your disposable income according to those values and priorities, such as travel or education. This style of budgeting requires a significant amount of time and commitment to get started but may help you reach your financial goals in the long run.
Government has a wide range of budgeting models, from the traditional line-item to performance and planning (“Program”) budgets. Various budgeting methods also exist to address the challenges of government operations’ changing scope and complexity.
For example, the site-based budgeting model is popular in school settings and typically involves granting increased budgetary authority to individual school sites. This allows schools to decide on staffing and resources based on their unique needs. While it can reduce centralized control, the flexibility and customization of site-based budgeting can improve decision-making. However, the lack of standardized processes and the need to coordinate across agencies may hinder the implementation of this budgeting strategy. As a result, it’s essential to explore all the options to find the best fit for your organization.
3. Cash flow budgeting
Cash flow budgeting is a method of predicting future cash inflows and outflows that allows businesses to see whether they have enough cash for their needs. It’s a good idea for small businesses that want to make sure they can pay their bills and continue operating during slow periods or times when revenue is lower than expected. A cash flow budget estimates a company’s cash inflows and outflows for a specific period, usually a week, month, quarter, or year.
Both businesses and individuals can use this type of budget. For individuals, it’s an effective way to control spending and stay on track with savings goals. For a business, it can help ensure enough money to cover expenses and maintain a healthy profit margin.
One of the benefits of a cash flow budget is that it can provide insight into where companies should concentrate their marketing efforts. For example, a cash flow budget can help a company determine how much to invest in advertising and other promotional activities to attract new customers. This can help a business increase sales and improve customer retention.
A cash flow budget also shows the difference between costs and revenues, which is essential for a business to understand. For instance, revenue from credit sales to customers is considered revenues but not cash inflows because a transaction has been made, but no actual cash has been exchanged. Costs and cash outflows are also differentiated by depreciation, payables, and receivables, all accounting entries that record the expense of goods or services over a certain period.
Another benefit of a cash flow budget is that it helps a company recognize whether there is enough cash to meet current and future expenses. A short-term cash budget will look at the company’s cash requirements for a few weeks or months, whereas a long-term cash budget will look at the company’s needs for several years.
A final type of budget a business can use is the envelope budget, an old-fashioned way to manage a company’s money. This involves creating separate pools of money for different budget categories each month and keeping the pools in envelopes to prevent overspending.
4. Envelope budgeting
The envelope budgeting method is a low-tech way to get in touch with your money that doesn’t rely on apps or spreadsheets. The idea is to divide your take-home pay into spending categories, label an envelope for each category, then fund it with the amount you have set aside for that expense. When it’s time to buy something within that category, you withdraw cash from the envelope. Then, you can’t spend any more from that category until the envelope is empty, which “creates a reality check that prevents overspending and debt,” says Bob Lotich, founder of SeedTime Money.
While it may seem like a hassle to carry around physical cash, some people say that this budgeting method helps them save because they tend to spend less when paying with cash. It’s also easier to track spending this way because you can physically see how much is left in each envelope.
However, there are some drawbacks to this budgeting method. For one, it requires high discipline to adhere to its rules. This can be challenging if you must factor in online spending or automatic bill pay, says Larry Duffany, a financial coach at Raising Hope. If you’re prone to impulse purchases, sticking with an envelope budget can be hard.
Other disadvantages include the fact that it may be easier to overspend when you don’t see the money leave your hands or if you use credit cards for recurring expenses. Also, the envelope system can feel “antiquated” in a world of direct deposit for paychecks, electronic funds transfer, and debit cards, Duffany notes.
If you have any cash left over at the end of the month, that’s great! You can roll the extra into next month’s envelope, put it into savings, or invest it. You could also use it to pay down debt. It all depends on your priorities and how you’re managing your money. The most important thing is to find an approach that works for you and your budgeting goals. There are plenty of options out there, including incremental budgeting, activity-based budgeting, and value proposition budgeting.
