My Personal Approach to Budgeting

By Grant Bugner, CFP®

For years, I struggled with implementing an effective budgeting tool, drowning in the minutia of expense categorization. Should Chipotle go into Restaurants or Fast Food? Or maybe Fast Casual? Turns out, the correct category probably should have been, “Who cares?”

Rather than trying to categorize every single expense, which in my opinion does not add real value, I developed my own system which I later found to have a name—reverse budgeting.

What is Reverse Budgeting?

Reverse budgeting flips traditional budgeting on its head. Instead of tracking every single expense and categorizing them into rigid buckets, reverse budgeting focuses on prioritizing savings and essential expenses first. Here’s how it works:

Step 1: Automate Non-Discretionary Expenses

The first step in reverse budgeting is to automate all your non-discretionary monthly recurring expenses via direct debit from your bank account. These are the essentials that you must pay every month, such as rent/mortgage, utilities, and loan payments, whether it’s a car loan, student loan, or any other debt.

Step 2: Prioritize Savings

Next, ensure that you are saving at least 10-20% of your gross pay towards long-term savings, whether that’s in qualified retirement accounts, taxable investment accounts, or ideally, a mixture of both. Automate these contributions via your payroll provider or set up a monthly sweep from your checking account. By prioritizing savings, you ensure that your financial future is funded before spending on non-essential items.

Step 3: Establish and Maintain an Emergency Fund

Build in a modest monthly transfer to a high-yield savings account intended specifically for emergencies and unexpected expenses. This fund should cover events such as car or home repairs, unexpected medical expenses, and sudden job loss. When you have an unexpected bill, transfer the amount needed from your emergency savings to your checking account. The monthly transfers will automatically refill your emergency fund over time, maintaining your financial cushion. If your emergency account is already topped off, great–any contributions above your pre-determined threshold can be considered discretionary savings to be used for “fun” items like vacations or hobbies.

Step 4: Calculate Discretionary Spending Limit

Once you’ve automated Steps #1-3, subtract the cumulative totals from your take-home pay. The remaining amount is your monthly available discretionary spend. For instance, if you have $4,000 left after covering all necessities and savings, this becomes your budget for discretionary spending. I personally use this amount as my target credit card balance, which I pay off in full every month.

Step 5: Monitor and Adjust

Throughout the month, keep an eye on your credit card balance. This will help you determine whether your spending is on track for the month, over budget, or if you have room to splurge. Spending restraint can be crucial if you’re approaching your limit, like cutting back on non-essential purchases, while splurge opportunities can be identified if you’re well under budget two or three weeks into the month. If you’ve set up the system correctly and your discretionary spending is consistent, your bank checking account balance should remain relatively stable.

Benefits of Reverse Budgeting

Reverse budgeting greatly reduces budget-related anxiety by simplifying the process. The benefits? Less stress due to not needing to track every penny spent, better cash flow management by automating essential expenses and savings, clear visibility into how much money is available for discretionary spending each month, and the ability to forecast your bank balance several months in advance.

Real-Life Example of Reverse Budgeting for a High-Net-Worth Individual

Consider Oliver, a successful entrepreneur with an after-tax monthly income of $15,000. For years, Oliver found traditional budgeting ineffective and time-consuming, especially with his high income and numerous expenses. He often felt overwhelmed trying to categorize every expense, from travel to daily business costs. After learning about reverse budgeting, Oliver decided to implement it into his cashflow management.

Oliver automated his non-discretionary expenses first. His essential expenses included a $3,000 monthly mortgage payment, $750 for utilities, $500 for loan payments, and $750 for other recurring bills such as insurance premiums and subscription services. These expenses totaled $5,000 per month.

Next, Oliver prioritized his savings. He aimed to save about 20% of his income, given his high earning capacity. He automated contributions of $2,000 per month to his retirement accounts, and $1,500 to a taxable investment account.

For his emergency fund, Oliver allocated $1,000 per month to a high-yield savings account. Given his substantial assets and higher monthly expenses, he set a significant threshold for his emergency fund. Any amount above this threshold was designated for discretionary investments or philanthropic activities.

With his essential expenses and savings automated, Oliver calculated his available discretionary spending. His take-home pay was $15,000 per month after taxes, and after subtracting his automated expenses and savings ($5,000 + $3,500 + $1,000 = $9,500), he had $5,500 left for discretionary spending. This amount became his monthly budget for variable expenses, including travel, entertainment, groceries, dining, and personal hobbies.

Throughout the month, Oliver monitored his credit card balance periodically. Two weeks into the month, he saw that his credit card balance was only $1800, letting him know that he could afford to splurge a bit in the second half of the month and still stay under his $5,500 target. This approach allowed him to enjoy his income without the stress of micromanaging every dollar. Oliver found that reverse budgeting simplified his cashflow management, reduced anxiety, and provided a clear picture of his available funds.

Addressing Common Concerns About Reverse Budgeting

Some people might worry that reverse budgeting is too simplistic or that it won’t provide enough control over their finances. However, reverse budgeting’s simplicity is its strength. By focusing on what truly matters—saving and essential expenses—this method reduces the mental burden of cashflow management. It’s important to remember that reverse budgeting doesn’t mean ignoring your finances. Regular reviews and adjustments ensure that you’re staying on track and meeting your goals.

Another concern is that without detailed expense tracking, it’s easy to overspend. While reverse budgeting does require a different mindset, it still promotes discipline. By setting a clear discretionary spending limit and monitoring your spending throughout the month, you maintain control without the hassle of categorizing every purchase.

Conclusion

Hopefully, you’ll find that this system greatly reduces budget-related anxiety, helps forecast household cashflow, and identifies if you’re consistently spending more than you’re bringing in. Reverse budgeting has done wonders for me and my family, and for those that I’ve introduced the system to. Give it a shot, and please don’t hesitate to reach out if you’d like help.

This post first appeared on https://peakam.com/reverse-budgeting/

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