Financial Planning

Reverse Budget or Traditional: Which Should I Use?

Published by Bob Gustafson

Reverse Budget or Traditional: Which Should I Use?

Budgeting your money is an invaluable aspect of personal finance. Some people are good at creating a budget and sticking to it and others are not. However, it is something that you should not ignore. And if you find yourself having a hard time saving money, you should consider implementing a reverse budget.

Like a traditional budget, a reverse budget helps you allocate your money to pay your bills. But unlike a traditional budget, it can also help you implement a regular savings habit.

What is a Traditional Budget?

Most people know what a traditional budget entails. Although, it’s really important to note budgeting has been a lost art over the last couple of decades. The current and even the previous generation really don’t do it. It’s much easier than ever before to live on credit and to live above your means. The U.S. is a materialistic society. And it’s really easy to spend money we don’t have and accumulate a bunch of stuff we can’t afford (or maybe don’t even need).

In a traditional budget scenario, you start with a spreadsheet or even a piece of paper and you list out all of your expenses. Once you account and pay for all of your expenses, whatever is left over, you save. A traditional budget ensures your bills are covered first. The hope is that you have money left over for savings.

The benefit of a traditional budget is that you pay your bills in a timely manner. But the downside is that saving money – whether for retirement, your children’s college or to purchase a home – is an afterthought.

Not putting aside money to save also causes most to overspend, thereby buying things you may not necessarily need. It’s too easy to use that cash on dining out, vacations or other luxuries you may not be able to afford.

What is a Reverse Budget?

The reverse budget is a simple spending plan that helps you think differently about your money. You look at your financial goals and the things you want to save for and decide what amount you need to set aside each month to make that happen.

For example, if you need to save $1500 a month for the retirement lifestyle you want, a reverse budget helps you get there better than a traditional one. Why? It’s sometimes referred to as a “pay yourself first budget.” That means instead of focusing on bills first, you set aside the amount of money you hope to save first.

To grasp this concept, it’s important to alter traditional thinking about budgeting. Rather than focus on paying bills and other expenses first, you treat your savings like a bill and deal with it first. It moves savings from an afterthought to being in the forefront. Then, you pay for other expenses.

So your mindset about money becomes:

  • First contribute to your savings account and investments.
  • Then pay your bills and other necessary items such as rent, groceries, internet, utilities, lines of credit or loans if you have them.
  • Take note of what you have leftover and make wise choices on how you spend it. Feel free to treat yourself but look at every purchase and ask yourself if you really need it.

This budgeting style makes your savings the most important bill in your budget – your future!

How do you create a reverse budget?

Unlike the traditional budget where you start with your known expenses, the reverse budget has you start with a savings goal. Give yourself a reason to save money. Are you saving for a home remodel or to put money away in an emergency fund? Whatever it is, a goal gives you a purpose for saving.

Now figure out how your target monthly savings goal. Take how much money you want to save and divide it by how many years you want to take to get there. Then divide that by 12 to figure out your monthly savings amount. Once you have that monthly savings amount, can you afford that amount each month?

So whether you are saving for a house, building up an emergency fund or want to ensure you have enough money for retirement, a reverse budget can help you get there. The idea of a reverse budget is beneficial for most because you’re including your long-term objectives into your current spending and making it part of your budget. When you set up something that you repeat each month, it becomes a habit.

Which budget is right for you?

These two budget methodologies can help people live within their means. If you:

  • Are self-disciplined with your spending habits and/or create a stringent budget, a traditional budget will work for you.
  • Have trouble saving and find yourself overspending each month, the reverse budget can help you become more disciplined towards savings.

Either way, implementing a budget of either type can mean the difference between long term financial success and failure. And as always, everyone has a unique financial situation. If you are not sure if a reverse budget is right for you, consider consulting with an expert. A financial adviser can help you with your budget and other financial needs so saving money is not such an overwhelming task.

Listen to our podcast for more on reverse budgets.