Utilizing the Cash Envelope System sounds great, but how does it work? In this post, we’ll cover a few suggestions on how to use the cash envelope system to master trouble spots in your budget.
I find a hybrid approach is most effective. Coupled with a solid monthly budgeting process, even in a digital age, the system can be quite helpful and it enhances Mêtis in your Money Matters!
Cash Envelope System – Overview and Essentials
The key point is to use envelopes (paper, or virtual) to allocate money into budget categories. When the cash in the envelope runs out for the month then you stop spending for that line item. You can borrow from another envelope, but the exercise is to create discipline and avoid overspending.
Let’s open this up a little more and cover some ways we’ve had success with this approach. See what works for you, experiment, adapt and keep working hard to master your budgeting.
What is the Cash Envelope System?
As we’ve said, this is a way to allocate money (increases and decreases) to the items in your budget. This can include income, expenses, and investments, and can be as detailed or targeted as you desire.
For each major category, you’ll need a named envelope that contains the amount of cash you have allocated for that period (e.g. bi-weekly). However, for this step to work well, you’ll need a working budget in place.
You Need a Budget!
A budget is essential for this system to work well and it reinforces the idea of responsible money management. A budget is important to identify inflows and outflows of your money. If you don’t have a good budget in place, I strongly encourage you to make that your first step! With the budget ready to go, you’ll now be able to identify the major categories and allocate cash for spending.
Filling those Envelopes
By keeping to the cash in the envelopes and not spending more you are forcing yourself to keep the budget. Assign an envelope to the desired categories from your budget, and allocate the cash you have for that pay period accordingly.
Continue this effort until you’ve allocated all the available cash inflows to an envelope. Now, all dollars have a place and you go about putting the dollars for that envelope to work. If you run out of cash, then you can borrow from another envelope and adjust the budget. This way you’re always staying within budget!
Experiences with a Cash Envelope System
This system works well enough, and I originally tried the method prescribed by Dave Ramsey which involved withdrawing cash from your bank and allocating for each envelope (i.e. budget category). The concepts are great, and the process opened our eyes to how much we were spending in all areas of personal finances. However, in our opinion, the cash-only process was a lot of work to maintain and operate.
The cash envelope system is great at making you aware of each and every transaction, inflow, and outflow. However, we ended up spending a lot of time withdrawing the cash from our bank/ ATM only to then turn around and deposit the money so we could pay by check or debit card. Here are some observations we had and ways we adapted the system to work for us.
We quickly moved from all cash to a hybrid approach, using cash only for our trouble categories. We do not carry balances on credit cards, and still strongly advocate you become familiar with your budget and expenditures, etc. However, making use of the technological conveniences in combination with watching the budget each week keeps us engaged and efficient.
Additionally, for our sinking funds, by holding the physical cash we ended up losing out on interest. Even low interest is better than no interest. I can understand and appreciate carrying some cash for convenience, but make sure you’re thinking through the opportunity cost of holding thousands of dollars at home. Additionally, inflation will lower the purchasing power of your dollars.
The other point I’d like to mention is holding large amounts of cash transfers the risk to you (vs the relative security of a bank). If you decide to hold a lot of cash you’ll have to be careful – don’t flash the money, and I don’t recommend carrying all the envelopes with you. Just take what you’ll need for the trip; avoid unnecessary risks.
However, over time, I ended up transferring the envelopes into digital budget items on Mint. Today, I only use the physical cash for “trouble” items on the budget. Those are my repeat offenders where I go over too often; the cash method forces us to put our “eyes on” the problem. We’re done spending when the money runs out.
Customize your Money Management
As we transitioned into our hybrid approach, we tried to use our checking account and debit card for things like utilities, recurring payments, and anything we could set up automatically online.
Suggested Core Envelope “Pain” Categories
As a hybrid, we used cash for the items that we “put our hands on” such as groceries, mad money, clothing, and gift shopping. We found this was more efficient (take advantage of the benefits of online bill pay, etc), kept us on track with the pain categories, and incentivized us to keep our overall budget in line.
Doing what works!
I’m sure almost anyone would benefit from trying the cash envelope system at least for a month. While it can be a little tedious, the system really calls your attention to each dollar. It helped us re-focus, re-prioritize, and re-kindle our family finances.
Right away, we noticed areas we could cut back without sacrificing the quality of life. Various subscription services were among the first to go! Additionally, it helped us get motivated and building discipline with our finances. It is part of what helped us better implement Mêtis in our Money Matters.
Reflecting back on the experiences, this boost was one of the catalysts that helped bring about better financial discipline. It also helped us complete things like a no-spend challenge, and boosting our savings as well. While we don’t follow a strict cash envelope system today, the discipline serves us well and the lessons learned have been invaluable.
One of the reasons we try to maintain a proper budget and ensure we are living within our means is to provide for a quality life and happy retirement.
I hope you can take what works best from this system for your family!
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