LWM

Step 3 - The Envelope System

Okay so you have gotten this far, I assume that means you are at least a little interested in your financial future. Congratulations, you have gotten further than many others.

Today’s blog is about envelopes… yep, your heard me rights (or read me right). The way this budgeting system works is through the use of envelopes, let me explain. Go out and get yourself a box of envelopes, it really does not matter what kind and over time you will undoubtedly try different types with different results.

I current use the regular size letter envelope but am considering something a little larger and a little stronger. A regular letter envelope is really all you need to get started, well that and maybe a good safe place to keep your envelopes. As you read on you will discover that over time you will have a dozen or so envelopes and each will contain varying amounts of cash, it is important that one you protect your cash from outside forces that may attempt to deprive you of such savings (fire, theft, kids) and two you use the system.

If you look at my budget template you will see that I have marked some items with a red asterisk, those items are paid on line through my checking account at the local bank (mortgage, credit cards, utility bills, etc.), and the other items are financed through the envelope system.

I have labeled an envelope to match each of my expense categories, combining a few to start out which can be separated later if needed. For example in my budget I have a health section where I budget for doctor, optical, dentist and prescriptions, you could have a separate envelope for each but for now in order to keep it simple I keep all four of those items in one envelope marked “Health”.

So sit down with a stack of envelopes and mark on one end of the envelope the budget item that matches your spreadsheet and then draw down the length of the envelope creating four sections (date, description, +/-, balance). You will be recording the date you place money into or remove money from the envelope, the purpose for the transaction, how much or put in or removed and then the balance of the envelope. There is something about writing this information down that helps keep us more accountable, you don’t just spend the money on other stuff if you have to write something on the envelope that your finance partner can question you about later.

10/08/10 | Paycheck | +200 | 215
10/26/10 | Prescription | -35 | 180

The most worn out and most often replaced envelope in our household is the food envelope, we have two line items that go into that envelope (groceries & dinning out) and since eating is something we do everyday that envelope gets the most traffic. When the wife or I go to the grocery store we take the envelope with us, you cannot spend more on food than what is in the envelope. When the wife & I go out to dinner the same rules apply. You set a budget and then stick to it; if you reach your eating out budget limit then you have to force yourself to stay in for the rest of the month.

Overtime you will start to fill your envelopes and the temptation will come to borrow from one to help another, do not yield to the temptation… you created a budget for a purpose and robbing from Peter to pay Paul will not help you make your goal of financial stability.

You may also be tempted when your car replacement envelope for example starts to have a balance for a thousand dollars or so to put that money in the bank, again I caution you to reconsider. Money in the bank is not any safer than locking it in a safe in your house; you are in fact more likely to spend it if it is in the bank then if you have it locked away someplace out of site and out of mind. If you must remove the cash from your house for any reason then deposit it in a different location then your main checking account, consider a credit union or someplace where you can make a little interest but where you cannot link your debit or credit card to those funds, they are RESERVED for whatever you budgeted them for. Keep your envelope system up to date and know how much money in that “savings” account belongs to each envelope item.

Again I do not suggest you move money from the envelopes into a bank account until you are good at budgeting and are able to keep your hands off any funds that have been set aside for another purpose.

More to come…

Feel free to send me a PM if you have questions or you can add them to the comments section if you feel others can benefit from the discussion.