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Traditional budgeting requires you to itemize all your expenses and then see if your income covers them. With traditional budgeting, the process typically leads to paring back on some expenses to make room for others.
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While this method is very practical and works for many people, there’s another way to budget that might work better for some people known as “backward budgeting.” Let’s take a look at what it is and how it can help your finances.
What Is Backward Budgeting?
Backward budgeting is a fancy way of saying “pay yourself first,” according to Tom Thunstrom, a small business finance writer at FitSmallBusiness.
“Paying yourself first is putting money away in savings before figuring out the rest of your budget,” he said. “You would establish a benchmark goal of how much you save, deduct that from your net income, and then establish the rest of your budget thereafter, including housing, utilities, food, and so on.”
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Or, in an equation: NET INCOME – SAVINGS = REST OF MONEY TO BUDGET
According to Thunstrom, if you find with this method that the rest of your expenses are exceeding the rest of your allotted money, you adjust your savings as needed. Or, you can pursue picking up an effective side hustle to help you get some extra income.
Why It’s Effective
Backward budgeting can help prevent incidental expenses, such as your daily coffee, from adding up, Thunstrom explained. “If you stick to a goal of saving $500 a month and you’re spending $120 a month on your daily double latte extra soy whip and then are unable to meet your savings target, you can adjust your daily latte habit to maybe once or twice a week to help you attain your target.”
Some experts also advocate that backwards budgeting is less stressful and puts an emphasis on saving over spending. “However, like with any budget plan, discipline and consistency is needed to make it work.”
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It Helps You Save Toward Specific Goals
“Using a backward budget is an excellent strategy for making sure you put money toward your most critical financial dreams,” said Laura Adams, MBA, a personal finance expert with the investing app, Finder. “Then you have to live off your remaining income for fixed and variable expenses, such as housing, groceries, transportation and insurance.”