How to Use the Envelope Budget Method

Melinda Pettijohn

FEBRUARY 8, 2020

The envelope budget method is effective for those who are just beginning to control their own money or those who prefer to physically see their money being spent rather than track everything electronically. This can be a great way for teenagers or young adults to learn their spending habits. It is much more painful to hand over cash than it is to swipe a little piece of plastic. 

The envelope budgeting method is a visual way to get a handle on your discretionary spending, which can be extremely helpful for many people. It makes your money tangible and because of that, it holds you more accountable for your spending. 

How to Use the Envelope Budget Method

Key Takeaways

  • An envelope budget is great for people who struggle to track their spending because it is a very tangible method of budgeting
  • Envelope budgeting can be used in traditional sense of using literal envelopes or you can use an app to put together an envelope budget
  • If you do have money leftover, it is best to save, or invest that money into something rather than spend the money on random things

What is the Envelope Budget Method?

Put simply – the envelope budget method is a system that requires you to put cash in an envelope for variable and discretionary expenses. This includes categories like groceries, restaurants and entertainment. Then, you only use the available cash for that category – and when the envelope is empty, you can’t spend any more in that category. 

Again, it can be helpful for those who are new to budgeting or those who are just trying to get a solid handle on where their money is going every month. There are both positives and negatives to this budgeting method, and we’ll explore those throughout the article.

How the Envelope Budget Should Not Be Used

Keep in mind that the envelope budget method isn’t intended for you to have to pay all of your bills in cash – which is a common misconception. Fixed expenses like rent, utilities, and credit cards can still be paid online or with a check or whatever other way you currently pay them.

Additionally, your savings should not be converted to cash. Any emergency funds, retirement savings, investments, and other savings should all be put in proper accounts. You do not want to have huge sums of money sitting around in an envelope that could easily be stolen or lost. Put large amounts of money in secure places that are appropriate for the situation - i.e. a high yield savings account or investment account.

With those key points out of the way, we’ll walk through how to start using an envelope budget.

How to Start Using the Envelope Budget

Just like any budgeting method, there are a few simple steps to follow to get it set up. Here are the six steps you’ll need to follow if you want to set up an envelope budgeting system.

1

Create Your Budget

In order to know how much cash you should assign for discretionary categories, you need to know how much money you actually have left over after you pay your bills and put money into savings or investments. This means you will need to put together your monthly budget. 


Start by adding up all of your income, and then subtracting all of your non-negotiable expenses. This includes rent, utilities, car payments, insurance, debt payments, etc. You’ll also want to make sure you include any savings payments in your budget before adding envelope categories.

2

Decide on Envelope Categories

The next step will be figuring out what categories you want envelopes for, and how much money to assign to each category. In order to get an idea of where you typically spend money, take a look at your spending habits for the last 3 months. Try to categorize your purchases into various categories until you’ve lumped them together into rough categories that make sense for your personal spending.

 

Common envelope categories include:

  • Groceries
  • Restaurants
  • Clothing
  • Gas / Car Maintenance
  • Hair Care / Makeup
  • Entertainment

Other envelope categories you might include could be “hobby” if you have a hobby that you regularly spend money on, “massages” if that is a regular monthly expense, or “travel” if that is something that you do on a regular basis.


Which categories you decide to use is up to you, and is part of why this budgeting method tends to work well. It can be highly customized to your lifestyle. The key is to not create so many envelopes that you can’t keep up with them, but to create enough that you can keep track of where you are spending money. It’s okay to keep the categories a little more general.


3

Set Dollar Limits on Each Envelope Category

Once you’ve decided on the categories you’ll use, you’ll need to set dollar limits on each one. Go back to the expenditures list you created for each category, and get an average of what you spent on each one over the last few months. Either use this average for each category, or if you’re running out of money for discretionary spending, then you will need to make some adjustments.


The key is to make sure all of your necessary bills are being paid first. Discretionary spending always comes second.

4

Create and Fill the Envelopes with Cash

This is the easy part – find some envelopes and fill them with cash. You’ll want to label each envelope so you know what it is for. You might also consider including a total amount, so you remember exactly how much you started with.


If you have enough money in the bank to fill up your envelopes for the entire month right away – great! But if not, you’ll need to determine how much from each paycheck you’ll need to put in each envelope.

5

Spend Only What is in Each Envelope

Once your envelopes are ready and filled with cash, you’ll simply just bring the envelope with you when you go to purchase whatever it is that you budgeted for. If you go buy groceries, you’ll use money from the grocery envelope. If you go out to eat with friends, you’ll use money from your restaurant envelope.


The key here is to not spend more than you’ve allotted for each envelope, and to avoid transferring money between envelopes.


The exception to that is if you go to the grocery store and also buy shampoo. Maybe you intend for shampoo to come out of your hair care budget, but you don’t want to make two transactions at the store – in those cases, it is fine to transfer money between envelopes in order to deduct expenses from the appropriate category.

6

Monitor Your Spending and Adjust as Needed

As you get closer to the end of the month, you may run out of money in some categories and have too much in others. You may also have expenses come up that you aren’t sure where exactly to pull the money from. 


As you continue to use the envelope method, you will need to adjust the amounts in each envelope accordingly, and make better decisions about purchases and what category they belong to. 


Budgeting, regardless of what system you use, is a process – not a set it and forget it thing. Therefore, you should expect to make modifications over time as your spending habits change, your lifestyle changes, your income changes, and you become increasingly aware of how you are spending money.

What to do if You Have Money Left Over?

So what happens if you get to the end of the month and you have money left over in an envelope? That is a great feeling to have and definitely something to pat yourself on the back for. But, that doesn’t mean you should just go spend it aimlessly because you have leftover discretionary money.

You should take that money and put it back into one of your savings accounts. Put it back into a general savings, an emergency fund, investments, retirement account, or if you have big savings goals such as taking a big vacation, buying a house, or buying a car, put it towards that.

More Envelope Budgeting Tips

Are you struggling to decide on which categories to use for your cash envelopes? Consider starting with the ones you are having the most trouble with. For example, if your grocery budget has been reasonable for the past three months, and you’re pretty good about making a list of what you need and sticking to it – then maybe you don’t need a grocery envelope. However, if you frequently end up going out to eat for lunch and spending a lot of money each month, then maybe you will want to have an “Eating Out” envelope.

Another common occurrence in today’s world is online shopping, or even retailers who may not accept cash. You can still use the envelope method in these occurrences. For example, say you prefer to order your groceries for pick-up, but most pick-up services do not allow you to pay with cash. Yet, you tend to throw too many snacks and unnecessary purchases into your grocery carts, so you need to hold yourself accountable in this category. What can you do?

In these circumstances, you could create an “Online Shopping” or “DNAC” (did not accept cash) envelope. Instead of putting money from your paycheck into this envelope, you put money in that envelope from your other categories. For example, if you purchase lunch from an online delivery service, you’d pay your “DNAC” envelope out of your “Restaurant” envelope. Then, at the end of the month, you’d deposit your “DNAC” envelope back into your checking account.

Pros and Cons of The Envelope Budgeting Method

The envelope budgeting method is definitely an obscure budgeting method for most people. Carrying around envelopes of cash can feel very old school or just might be uncomfortable. However, there are both pros and cons to budgeting your money in this way. 

Pros

  • Prioritizes paying your necessary monthly expenses first
  • Very tangible way to budget your money
  • Might save more money because it is more difficult to hand over cash than it is a credit card
  • Can track your spending easier

Cons

  • Might be carrying around a lot of cash
  • Miss out on cash back or other credit card rewards
  • Need to keep track of your envelopes of cash
  • Could easily lose or have an envelope stolen

Tech-Savvy Ways to Use the Envelope Budgeting Method

If the principles behind the envelope budgeting method appeal to you, but you are concerned about carrying a large amount of cash, or simply don’t want to use cash, there are some tech-savvy options.

Keep in mind, though, that part of what makes the envelope method effective is tangibly being able to see where your money is going. By sorting expenses digitally, you don’t have that same control over your spending. 

Several envelope budgeting software and apps exist such as YNAB (You Need a Budget) and Mvelopes. You can learn more about the various budgeting apps and the pros and cons of each in our guide to making a budget.


Final Word

The envelope budgeting method is a great way for people to begin budgeting. It is a method that can be used in the traditional sense of filling envelopes with cash, or a more modern way using YNAB or another budgeting software. 

The biggest benefit for the envelope method is that it helps people physically see where they are spending, and potentially overspending, every month. However, it can be annoying and unsafe to carry that much cash around regularly. If you try the envelope budget method and it doesn’t seem to work well for you, or if you just recognize that it isn’t the right system for you based on this description, you might consider trying out another budgeting method.


About the Author


Melinda Pettijohn

Melinda Pettijohn is an expert personal financial writer with more than 10 years of experience in the industry. She covers topics ranging from budgeting, additional ways to make money, credit cards, managing debt, paying for college, and more. As a mom of three kids, she especially loves sharing insights on how to make the most of your money while raising a family. 


1 thought on “How to Use the Envelope Budget Method”

  1. Karen Steuerwald

    Very good advice. Now, since teenagers are home from school for a few weeks, is the perfect time teach this skill.

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