Zero-Based Budgeting: How To Give Every Dollar a Job

With zero-based budgeting, all of your income goes toward expenses, debt repayment, and financial goals.

Person with a laptop and a calculator on top of a pile of bills.
How the zero-based budgeting system works.

The main idea of zero-based budgeting is giving every dollar a job.

That means your take-home pay minus your expenses should hit zero at the end of the month. That doesn’t mean you should spend everything you bring in frivolously. Ideally, your zero-based budget assigns some of your income to savings goals, like saving for retirement or padding your emergency fund.

Starting a zero-based budget could help you track your spending accurately, use every dollar you earn more effectively, and improve your personal finances.


Definition:

Zero-based budgeting is a budgeting strategy that allocates every dollar of income to an expense category. At the end of the month, you should have no money unaccounted for, as your income minus expenditures should equal zero. 


Key Takeaways:

  1. Zero-based budgeting gives every dollar a job, meaning every dollar of your income is assigned to a budget category.
  2. You’ll get a clear picture of your income and expenses to make spending choices that align with your goals.
  3. Using a zero-based budget requires more planning and monitoring than other budgeting techniques.

What Is Zero-Based Budgeting?

Zero-based budgeting, also known as zero-sum budgeting or giving every dollar a job, is a budgeting method that assigns every dollar of your income to a budget category. Income minus expenses will equal zero by the end of the month.

Any unspent money stays in your checking account with a traditional budget. Or it gets spent on impulse purchases.

A zero-based budget requires you to be more intentional with your money. You decide exactly where every single dollar goes. You could allocate any extra dollars to spending, savings, additional debt payments, investments, or other financial goals.

How to Create a Zero-based Budget

Person adding up numbers on a calculator.

The zero-based budgeting process starts with calculating your after-tax income, evaluating your spending, and categorizing your expenses. Here are the steps for creating a zero-based budget:

1. Add Up Your Monthly Income

The first step is identifying your total after-tax income for the month. Total your salary plus any extra income from:

  • Side jobs
  • Government benefits
  • Bonuses
  • Alimony and child support
  • Cash gifts or inheritances
  • Tax refunds
  • Profits from selling items
  • Interest or dividend income

You need to know how much you have to work with to set up your budget. That might be tricky if you’re self-employed or have an unpredictable income. You can look at your bank statements and use an average of the last several months or base your budget on your lowest month.

2. Categorize Your Expenses

Next, make a list of your monthly expenses. Include your needs, wants, and financial goals like savings or paying off debt early.

Start with your essential living expenses: housing, groceries, utilities, transportation, insurance, and loan payments. Include your wants, such as dining out, travel, personal care, and entertainment.

Don’t forget irregular expenses you pay only once or twice a year, such as car registration, tax preparation fees, or tuition. 

Think about your savings goals and make categories for them. If you want to save for a vacation, create a “vacation savings fund” category. If you want to throw extra funds at your credit card debt to get out of debt faster, create a “debt payoff” category.

If you’re new to budgeting, consider adding a “miscellaneous” spending category. Budgeting down to zero doesn’t leave much wiggle room if you underestimate a bill.

3. Set Dollar Amounts for Each Category

Set a target amount for each category, including your savings. Some of your expenses, like rent, will be fixed, while others will vary from month to month.

You may need your credit card and bank statements for variable expenses, such as your electric bill or restaurant spending. Review at least the last three months of history to come up with an accurate estimate.

For an annual or irregular cost, you can put money aside every month or adjust numbers for the month they’re due to accommodate them.

4. Subtract Expenses From Income

Total your spending targets and savings goals and subtract them from your monthly income. The goal is to end up with precisely zero.

If the result is negative, your spending plan exceeds your income. You’ll need to make changes, or you risk tapping into your savings or going into debt to cover your spending.

Look at your nonessentials. See if there are cuts you can make to your discretionary spending.

If you wind up with a positive number, you have extra funds that haven’t been deployed. You can spend those extra dollars as you please but think about putting any surplus cash toward your emergency fund, debt balances, retirement savings, or other savings goals.

5. Monitor and Adjust

Now that your budget is complete, you can’t just set it and forget it. Zero-based budgeting requires you to review and revise your spending plan often.

You’ll need to monitor your spending periodically. Make sure you’re not overspending in any of your budget categories.

Toward the end of the month, you’ll also need to spend time preparing for next month. Compare your actual spending against the projected dollar amounts you set for last month.

If your numbers were off, ask yourself why. Did unexpected expenses derail your plan, or did you go over budget in one or more categories? Adjust your dollar amounts for the upcoming month, change your spending habits or both.

Zero-based Budgeting Example

Here’s an example of the zero-based budgeting system in action:

Total monthly household income from all sources: $4,000

Expense CategoryAmount
Housing$1,000
Groceries$500
Utilities$250
Gas$200
Car loan$400
Credit cards$125
Student loans$125
Cell phone$100
Medical expenses$75
Pet care and vet bills$60
Emergency savings$150
Retirement$250
Car insurance premiums$150
Life insurance$35
Dining Out$100
Streaming services$40
Gym membership$40
Travel fund$100
Fun Money$200
Miscellaneous$100

Income – Expenses = $0

Zero-based Budgeting Pros and Cons

Here is a quick summary of the pros and cons of zero-based budgeting:

Pros

  • It helps you decide where to cut spending.
  • You spend every dollar purposefully.
  • Your short-term and long-term financial goals are always in focus.

Cons

  • Setup and monitoring are time-consuming.
  • It may not work for self-employed individuals, seasonal workers, and people with irregular incomes.
  • Underestimating variable or annual expenses could force you to re-do your budget.

Zero-Based Budgeting Alternatives

Couple reviewing their finances together.

If you’re not sure zero-based budgeting is right for you, there are other options for budgeting your money. Consider the following:

  • Envelope method – Use envelopes to divide your cash into each budget category. You’re done spending money for the month when your envelopes are empty.
  • 50/30/20 rule – This percentage-based method of budgeting assigns 50% of your net income to needs, 30% to wants, and 20% to savings or debt repayment.
  • 30/30/30/10 – Similar to the 50/30/20 system, this approach allocates 30% for housing, 30% for necessities, 30% for financial goals, and 10% for wants.
  • Reverse budgeting – This method requires you to pay yourself first by putting money toward your savings and paying off debt before you spend on anything else.

Starting a monthly budget can significantly improve your financial situation if you’re not budgeting your money right now. It’s a matter of finding a budgeting style you can stick with every single month.

Will the Zero-based Budgeting Method Work for You?

Managing a zero-based budget every month is easier if you have a steady paycheck from a fixed salary. It does require discipline, diligence, and attention to detail.

If your income is unpredictable, it will be much harder to manage. You may have to adjust every time money comes in or find another approach.

Image credits: Unsplash

Sara

Sara Graham

Sara Graham is a frugal living and household budgeting expert. Her writing has appeared on MSN Money, The Good Men Project, Fairygodboss, and several other online publications. She is the co-founder of KindaFrugal.com, a personal finance and frugal living blog.