Financial trends might come and go, but reverse budgeting is timeless. Even if you haven’t heard of the term, you’re probably familiar with the concept of “pay yourself first.”
“It’s really cool idea,” says Dawn-Marie Joseph, president of Estate Planning & Preservation, an estate planning firm in Williamston, Michigan. It turns the traditional approach to budgeting on its head.
If you’re intrigued by what reverse budgeting is, how to do it and whether it’s right for you, keep reading for all the details.
What Is Reverse Budgeting?
Budgeting normally involves first determining how much you need to spend on necessities such as housing, child care, food and other expenses. Then, any remaining money gets divided up as discretionary spending and savings.
[READ: How to Create a Saving Strategy]
Reverse budgeting takes the opposite approach. It calls for identifying those important things first and making it a priority to set money aside to save for them. Then, you figure out how to cover other expenses with whatever money is left.
“I love reverse budgeting,” says money coach Annie Cole, who recommends it to her clients who are trying to get out of debt. “It puts our goals at the forefront of our minds.”
Benefits of Reverse Budgeting
There are several reasons to give reverse budgeting a try. Not the least of which is that it may be easier to stick to a reverse budget than a traditional budget.
“Reverse budgeting leads to better outcomes because there is meaning behind how you’re allocating money,” says Frank Legan, partner with Signature Estate & Investment Advisors in Cleveland and author of “The Humanity Factor: A Heart-Driven Approach to Your Finances and Your Future.”
When you have clear goals and are focused on those goals, you may be less likely to mindlessly spend on other things.
Plus, reverse budgeting can be more satisfying. “It offers peace of mind that you are working for yourself,” Joseph says.
Doling out all your paycheck each week to pay bills can be demoralizing. Reverse budgeting keeps some of that money in your pocket and helps you feel like your hard work is benefiting you in a more direct way.
How to Create a Reverse Budget
There is more than math involved in creating a reverse budget.
“It’s about sitting down and writing out your priorities in life,” Legan says. Those may include financial freedom, education or travel. Understanding what motivates you is key to a successful reverse budget.
Next, you need to assign a cost to each priority. In some cases, that could be easy. If you want to take a vacation next year, you can estimate the price and break that down into a monthly figure based on your travel date.
For more nebulous goals like early retirement, it may be better to assign a percentage of your income rather than a specific amount.
Once you know how much you need each month to meet your goals, calculate how much money is left and see how that works with your current fixed expenses. You’ll likely have to eliminate some expenses and look for ways to pare down others.
[Related:Expenses That Are Destroying Your Budget]
“You might have to be a little cutthroat,” Cole says, who is the author of the new book “101 Ways to Earn More, Build Wealth, and Live Rich in Your 30s.”
Even then, it could be difficult to make a reverse budget work initially. Don’t despair. Instead, reduce the amount you’re setting aside for savings goals until you can figure out ways to trim your fixed expenses or boost your income.
Once create the budget, automate your savings. Some employers will split direct deposits into multiple accounts, or you can create automated transfers from your checking account for each payday. You may want to consider opening a separate savings account for each of your financial goals.
Or, if that’s not practical, you may be able to create sub-accounts within one savings account to keep track of the funds. Barring that, you can use a budgeting app or spreadsheet to categorize and track savings deposits by their intended purpose.
As your budget situation improves — perhaps you pay off your car loan or find a roommate — assign cash to your savings goals first before finding new things to spend your money on.
To recap, the reverse budgeting process looks like this:
1. Determine your financial goals and priorities.
2. Assign a monthly cost to each goal.
3. Calculate how much money is left after saving for your goals.
4. Using remaining funds for other spending, cutting expenses as needed.
5. Automate savings by setting up direct deposit or recurring transfers.
6. Adjust your savings as more money becomes available in your budget.
[Read: How to Make a Budget — and Stick to It.]
Tips for the Cash Strapped
If you’re living paycheck-to-paycheck, the idea of reverse budgeting can seem out of reach. While it will be more difficult to implement, remember that you aren’t going to solve all your financial worries in a single day, Legan says.
Instead, start with what you can — even if that’s just a few dollars per paycheck. Transfer that money to a savings account and earmark it for your highest priority goal. Then, look for ways to create a buffer in your budget. Here are some ideas to get you started:
— Sell unused items at a garage sale, consignment shop or an online platform such as Facebook Marketplace.
— Check your state’s unclaimed property division to see if they are holding any funds in your name.
— Work a second job or side hustle.
— Eliminate unused subscriptions and other recurring charges.
— Shop for cheaper auto and homeowners insurance (while being mindful of buying adequate coverage).
— Bank your raises, bonuses and tax refunds or use them to pay off debt.
— Adjust your tax withholdings if you typically get a large tax refund each year.
— Consider lifestyle changes such as downsizing your house, adding a roommate or becoming a one-car household.
It will require sacrifice to get to the point where you’ll have a cash flow that makes reverse budgeting work for your household. “If you put that money aside for you, the rewards will be tremendous,” Joseph says.
More from U.S. News
Best Budget Apps for Couples in 2024
What Is Budget Counseling — And Do You Need It?
What Is Reverse Budgeting? originally appeared on usnews.com
