Cash Envelope Method: The Ultimate Guide

Table of Contents

What is the Cash Envelope Method?

The Cash Envelope Method is a way to budget by creating envelopes for each major expense category and putting a fixed amount of cash inside each envelope. Following the Cash Envelope Method of budgeting gives you a consistent visual representation of how much money you have and how much money you spend. At the end of the month, you know how much you spent in each category by looking inside the envelopes.

Who is the Best Person to Use the Cash Envelope Method?

The Cash Envelope Method is great for those just starting to budget because it is very visual which helps hold you accountable.

Having a tangible fixed amount of cash inside an envelope throughout the month where you physically take out the money to pay for expenses provides you with a greater appreciation for where you money is going and how fast.

For instance, if you put $400 into your Grocery envelope and find that you spent $300 in the first week, then you know immediately that you spent too much, too quickly.

How it Works

Have you ever felt like you money was gone before you even got your paycheck? You scratch your head wondering where the heck all your money went. How is every penny is already spoken for before it even hits your bank account. Why is this?

Typically, the reason we overspend is because we just don’t have a good sense of how much money we have available. Credit Cards often provide people very high credit limits – giving individuals the ability to spend far more than they should. With no mechanism holding people accountable, we find ourselves overspending.

The envelope method uses a cash basis system to put the brakes on our overspending. When the money in the envelope is gone, we know immediately that spending in this area must stop.

How to Start the Cash Envelope System

Step 1: Decide Your Method

The first step to starting the Cash Envelope Method is to decide how you would like to put money into the envelopes. For instance, would you like to add money to the envelope, weekly, biweekly, or monthly.

You may find it useful to add money to the envelopes as you are paid. This way, whenever you have money flowing into your accounts, you can also replenish your envelope funds.

Example:

Let’s say you are paid twice per month. Once on the 15th and again on the 30th. On the 15th, your job automatically deposits $1,500 into your bank account. Also on the 15th, you visit your bank and withdraw $800 to put into your envelopes. The remainder of the money stays in your bank for the purpose of paying things like the mortgage and rent.

Then, on the 30th your job pays you again by automatically depositing another $1,500 into your bank account. Just as you did on the 15th, you go to your bank on the 30th and withdraw $800 to replenish your envelopes. The money that stays in your bank pays for those large monthly online expenses (i.e. the mortgage or rent).

Step 1: Make a List of Expense Categories

The second step in the Cash Envelope Method is to make a list of all of your expense categories. Common expense categories include:

Groceries: Food to eat at home and toiletries
Car: Gas, oil changes, tire replacement, brakes, and any other repairs & maintenance
Entertainment: movies, sporting events, gifts, zoo, and any other fun activities
Healthcare: prescriptions, co-payments
Coffee: Starbucks and Dunkin’ runs
Beauty: manicure, pedicure, hair cuts, facials, massages, etc.
Restaurants: take-out, fast food, and any other restaurant
Children: extra curricular activities such as sports and field trips, daycare
Alcohol: wine and beer
Housing: rent, mortgage, HOA
Utilities: Gas, Water, Electric, Cable, Internet, cell phone

You can make as many envelopes as you like or you can consolidate. For instance, you can consolidate the Entertainment envelope to include Coffee, Beauty, Restaurants, and Alcohol. Fewer envelopes are easier to keep track of but it is more difficult to see how much money you are spending on coffee each month (as an example).

The list of expense categories includes expenses where you will not make envelopes. Such as, housing and utilities. However, you need to include these on your list because they are part of your monthly spending and you need to make sure you have enough funds to pay them.

Step 2: Allocate Funds

This is the step where you find out how much you want (or need) to spend in each category. Figuring out how much to spend is easy in some areas and difficult in others.

For instance, each month you have fixed expenses such as rent and a mortgage. You know exactly how much fixed expenses cost each month so it is much easier to budget for these items.

Other areas are more difficult to budget for such as, entertainment, grocery, and car expenses. In these areas you need make a realistic assessment and conscious commitment of how much you are going to spend in these categories. This is because, once you pick a number, you are stuck with it for the rest of the month.

Challenge yourself but do not deprive yourself. If you feel deprived then you are not going to stick to a budget for long. If you challenge yourself, you will meet your goal, likely feel proud of your accomplishment which will motivate you.

Example

In this example, assume you are paid twice a month (15th and 30th) with your take home pay as $1,500 per month and you withdraw $800 from the bank each pay period to pay for expenses. Below is an example of how your fund allocation should look:

The table above shows exactly how much money to allocate to each envelope each pay period. The last row shows that with this allocation, the household saves $125 per pay period, or a total of $250 each month.

Step 3: Create a Plan for the Household

The next step is to create a plan for how everyone in the household will work together to implement the envelope system.

Do you have a significant other that adds to the household income and also participates in monthly spending? Even if one person takes the lead on all monthly spending in the household, chances are a significant other does pick up groceries every once in awhile.

In such instances, what do you do? Create a second envelope for your hubby. For instance, if you have a monthly grocery budget of $400, give your other half a portion of that $400. Perhaps their grocery envelope will have $100 and yours will have $300.

Do this for each of your categories.

If you have children, this is the time to get them involved. Explain to your children what you are doing. Have them help you with step 4. Kids like feeling involved and knowing what their parents are doing. If you get them on board they may end up encouraging you and pushing you to stick with your budget.

Step 4: Make the Envelopes & Allocate Funds

The fourth step to the cash envelope method is to make your envelopes. This can be pretty fun. Since the cash envelop method is very visual, make sure your envelopes are also very visual. If you have children, have them help out with the decorating.

Create envelopes that are different colors, perhaps you can even have a picture or design that shows the kind of category it represents. Having color envelopes with pictures allows you to quickly find the correct envelope when you need. This way you don’t need to shuffle through everything trying to read the labels on each of the envelopes.

Once all of your envelopes are ready to go, allocate your funds using the information from step 2.

Your children can also be involved in this step as well. At the kitchen table, show your children the $800. Tell them to count the money and put the funds into the correct envelope. Show them that every dollar has a purpose.

Common Questions

Some of the most common questions people have about the envelope system include:

What happens when the cash in the envelope runs out?

If you run out of cash in an envelope then you cannot spend any more money in that category.

Can you use the envelope system if you pay everything online?

Yes, you can use the envelope system if you pay everything online. However, you will use a modified cash envelop method.

Follow each of the steps from above but instead of withdrawing money from the bank, keep the money in your account. On each of your envelopes write down how much money is “inside”. Then, every time you spend money in the category write it down on the envelope.

How do you use the envelope method if multiple people in the household pay for things?

Refer to step 4 above. Create a plan for everyone in the household. Make multiple envelopes for each person and allocate the money to each person in each category in whatever way fits your lifestyle. This way, everyone is involved and on the same page working towards the same goal.

What happens if there is cash leftover at the end of the month?

If you have leftover cash at the end of the month then you have two options.

You can keep the cash in the envelope and replenish the funds as usual. This way you have some extra spending money in this category.
You can put the money in the bank to go towards saving or paying down debt.

If you only have a few dollars left then it is probably easier to just leave the cash in the envelope and have some extra spending money. If there are substantial funds leftover, congratulations! Good job, it is completely up to you how you would like to use those extra dollars.

Do I need to track my purchases when I pay in cash?

It is up to you if you would like to track every purchase on the back of the envelope. If you want to know exactly where your money goes, then writing things down is something you are going want to do. Writing everything down can be cumbersome so you may choose to write only certain expenses like an oil change for the car because oil changes typically don’t occur every month.

Is it save to keep lots of cash lying around?

You are not going to want to bring every envelope with you every time you go out of the house. It would be absolutely horrible if you lost any of the envelopes. When using the cash envelope method, make sure you only bring the envelopes that you are going to need. When you carry substantial cash outside of the house, be very careful and mindful of where you are placing the envelopes. You don’t want to misplace you hard earned money.

If I run out of cash in one envelope, can I borrow money from another envelope?

If you run out of cash in one envelope and want to borrow some cash from a different envelope to replenish the empty one, then you can certain do this. However, the cash envelope method of budgeting is about discipline. So, if you can avoid reallocating funds then you should. But, sometimes things happen and for one reason or another our expenses can be higher than anticipated in one area.

The problem with reallocating funds is that you do not want this to become a habit because then you will continue to over spend. You want to train yourself to learn how to live within your budget.

How to Succeed

Succeeding on any budget is largely up to the individual. However, having a strong support system and knowing why you are doing this helps tremendously. Everyone in the house needs to be on board and supporting one another.

You need to be committed and disciplined. Living on a budget is not easy. However, just remember that these habit changes benefit your life and, if you have children, it will benefit their lives as well by teaching them how to treat money responsibly.

Pros of the Cash Envelope Method

Great for beginners.
Provides a physical mechanism to stop over spending.
Visual representation showing you where your money is going.
Holds you accountable and organized.

Cons of the Cash Envelope Method

Withdrawing substantial funds from your bank account on a regular basis is risky. You do not want to lose this money because once it is gone, it is gone.
We are become a society that increasingly operates online making the cash envelope method overly difficult and often impractical.
Requires you to take regular trips to the bank which can be inconvenient and annoying – two things that make it very difficult to stick with this method for any length of time.

How to Create a Budget You Can Actually Stick To

How to Save Money on a Low Income

Struggling Financially: The Do Not Buy List

Takeaways

The Cash Envelope Method is ideal for budgeting beginners
Living on a budget requires discipline and it is hard. Do not get discouraged! Stick with it! Surround yourself with people that are supportive.
If you think you may need some help budgeting and holding yourself accountable, consider getting a money coach that can help you with one-on-one guidance.
If you have any questions let me know! I am happy to answer.
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