the envelope system

[KTP]

We had some budget discussing this weekend and realized we need to do better in order to reach our goals.

We are not doing *bad* by any means...we have all 3 cars paid for, no cc debt (we have 4 cc but pay off the 2 we use every month), we pay an extra $700 a month toward the principal on our house and we are really making an effort to save a sizable chunk of our income for early retirement (in addition to the maxed 401k contribution).

The problem is I still see a ton of waste in our attitude and purchases. I especially see it when I read on here about how well some of you do with your budgets. I was thinking about trying out the envelope system for monthly expenses that are not fixed.

Here is what I consider fixed:

Home mortgage + extra principal
Car insurance
TV, phone, internet combo package
water + garbage pickup
Gasoline for driving to/from work (we live in the stix with no bus route)

Here are some items that can vary widely:
Gasoline for entertainment (pulling boat, car vacations, visiting friends, etc.)
Electricity (if we stay super toasty comfortable in the winter it can be over $500 a month, but last jan/feb we kept it down to $200 a month by freezing our asses off, mostly as an experiment)
Food (in the past we have spent an obscene amount here...over $1000 a month for two people, but doing much better now)
Clothes (neither of us is at all vain...very happy wearing old t-shirts and jeans)
Entertainment (in the past could be a major budget buster)
Hobbies (an extreme budget buster...we have spent major bucks here in the past, going as far as building an entire computer controlled two seater amusement park type ride in our house for a party)

Realizing that we are going to sell almost everything including the house in 8 years, we have both agreed to cut down the hobbies to a realistic number (maybe 5 total instead of 20 to 30).

So...to start the envelope system, we take our monthly income, knock off the fixed expenses, take out what we want to save for our early retirement goals, then divide the rest up into several categories and actually put real cash in these envelopes each month?

How do you work this with a cash back credit card (we use that for everything, gas, food, clothes, entertainment, etc.) Is it just as simple as removing the money from the envelope category of the item you purchased with the cc and putting it in the cc payment envelope?

Is it considered *ok* to move money from one envelope to another as long as you stick to the budget or are you supposed to keep the excess in the same envelope for several consecutive months and then make an overall fix to the alotment for that envelope? I could see it being a *reward* to have the electricity envelope produce an excess that flowed into the hobby or entertainment envelope, but I could also see a problem if you spent the extra money during the cheap months and didn't have enough to cover the expensive winter months.

Am I reallly just making this out to be more complicated than it should be?

[Alex_Adviser]

Its better that you use the same envelope if you are simply looking forward to add money to it every month. But just keep a track of the amount put into it every month.

If it is for managing your expenses then you can have different envelopes for different expenses every month.

[sandrark]

I was thinking about trying out the envelope system for monthly expenses that are not fixed.

Here are some items that can vary widely:

Gasoline for entertainment (pulling boat, car vacations, visiting friends, etc.)

Electricity (if we stay super toasty comfortable in the winter it can be over $500 a month, but last jan/feb we kept it down to $200 a month by freezing our asses off, mostly as an experiment)

Food (in the past we have spent an obscene amount here...over $1000 a month for two people, but doing much better now)

Clothes (neither of us is at all vain...very happy wearing old t-shirts and jeans)

Entertainment (in the past could be a major budget buster)

Hobbies (an extreme budget buster...we have spent major bucks here in the past, going as far as building an entire computer controlled two seater amusement park type ride in our house for a party)

So...to start the envelope system, we take our monthly income, knock off the fixed expenses, take out what we want to save for our early retirement goals, then divide the rest up into several categories and actually put real cash in these envelopes each month?

Yes. But some people fund the envelopes 1x per week, some twice per month, some once per month. It may depend on your paydates and shopping habits.

How do you work this with a cash back credit card (we use that for everything, gas, food, clothes, entertainment, etc.) Is it just as simple as removing the money from the envelope category of the item you purchased with the cc and putting it in the cc payment envelope?

This is where you'll get the debate. Studies show pretty consistently that those who use a CCd, even if paid off each month, tend to spend more than if they use real bills. So true Ramsey-ites will tell you that the PAIN and INCONVENIENCE of cash is the POINT.

For me, I estimate what those items will be, keep the funds in my checking account, and transfer the funds online to the credit card payment site several times each month. It's one way to keep a lid on the spending, because as the checking account shrinks, so do my spending impulses.

Others would say that the CCd points and rewards are a trap, and you should cut them up and only use a debit card.

If you're maxing out your retirement and pre-paying on your house, do you already have non-retirement savings, for things like major house repair or car replacement? If so, I think you're managing well overall, and question whether complete Draconian measures are....necessary. Many savers will gasp in horror, but I really struggle with WHEN IT'S OK to spend some money on hobbies and FUN. For me, it's when things like retirement and savings are well-established, the CCds are paid off each month, and you are not tapping savings each month to cover this month's costs.

Is it considered *ok* to move money from one envelope to another as long as you stick to the budget or are you supposed to keep the excess in the same envelope for several consecutive months and then make an overall fix to the alotment for that envelope?

For me, it depends on the envelope. If it's clothing or personal care, or auto maintenance, I'd leave it accrue, since I don't fix the car or shop each month. If it's utilities (which I don't have an envelope for), I'd simply transfer the savings differential into savings to "get it off the budget" that month.

I could see it being a *reward* to have the electricity envelope produce an excess that flowed into the hobby or entertainment envelope, but I could also see a problem if you spent the extra money during the cheap months and didn't have enough to cover the expensive winter months.

Yeah, in general I consider it a bad idea to borrow from envelopes. Unless it's say Dining Out vs. Entertainment. (For us, Dining Out *is* entertainment. ) The reason it's a bad idea is it conflates what you spend in a away that makes it hard to know where you REALLY are spending your money. Which makes it harder to rein it in, or cut back if you should need to do so.

For example, if my grocery budget is $300, and I consistently spend $325, that budget needs adjustment. So, the question becomes one of priorities....do I really NEED to spend $300 in Dining Out, or can I lower it to $275 and balance my spending plan? For me, I try hard to balance the DISCRETIONARY and controllable areas of my budget to send as much to savings as I can. So any under-spending (gas this month) gets swept to savings, rather than blown. As a result, I'm able to survive a 10% work furlough while still maintaining my retirement contributions at a very high percentage of my income. If I was less disciplined, it'd be easy to argue that I had to reduce my budget and retirement contributions...and waste it on ephemeral stuff that I won't remember 10 years from now.

Am I reallly just making this out to be more complicated than it should be?

No, everyone struggles with how to implement the plan in the most effective way for them.

My style for envelopes is...to not use envelopes. Instead, I decided on $200 per month in cash spending, and I break it down so that I carry minimal cash with me each day. I do this to force me to confront choices. If I carry $20, I'll spend $20 on coffee, lunch, parking, a used book at lunch...If I carry $5, I have to choose where that $5 gets spent. As a result, I spend less. And without the bother of many envelopes and confusion.

YMMV.

Sandi

[zakity]

I use an electronic envelope system. We use credit cards for everything and everything is recorded on a spreadsheet. I check the credit card account every few days online. I have a double entry accounting system. It goes on the spreadsheet in the "spent" column and comes out in the "envelope" column. My "envelopes" are utilities, fuel, groceries, misc (clothes, car parts, doc visits, etc), his mad money, my mad money, and eating out.

[amedvedovski]

A couple points.
If you are very disciplined charge credit cards as much as possible if you pay off them in full every month. This can be easy 2% cash back on purchases that you can save for retirement.
Also I noticed that you overpay your mortgage. Not sure what interest rate you are getting. But if you have it in 4-6% then it makes more sense to invest that money, for example, into S&P 500. You will be ahead of the game doing this. Just think, if you payoff you home in N years you are debt free. But if in the same N years you have, let's say $100K sitting in your account and owing $100K to the bank as mortgage, aren't you debt free as well? If you lose your job or have health problems and most of your money in your house equity would the bank give money to you easily?

Kind Regards,
Alex Medvedovski
alexfacts.blogspot.com
Twitter ID @alexfacts

[KTP]

My mortgage rate is 5.125%. If you consider the tax break from deducting mortgage interest to be a wash with the taxes you would incur with interest paid on a savings account, then basically any money I put toward the mortgage is earning 5.125%. This is a risk free investment, unless there comes a time where the government would just forgive everyone's mortgage. At that point I would look pretty stupid.

Can you show me another place where I can earn 5.125% risk free? The best savings account rate I could find was barely over 2%.

The $700 a month I apply toward the mortgage is a small percentage of our savings. We have a one year emergency fund in cash (cds/savings) and the rest of our leftover earnings is going into the stock market.