Last Updated on March 12, 2023 by Melissa S.
What is the Cash Envelope System?
The cash envelope system, popularised by American money guru Dave Ramsey, is a budgeting method that involves setting aside cash for specific spending categories. It helps to keep track of spending and prevent overspending by limiting the amount of money available to spend in certain areas, such as groceries or entertainment.
How to do an envelope system
The cash envelope system is a budgeting method that helps you keep track of your spending. It involves dividing your money into different envelopes for specific categories, such as groceries, petrol, and entertainment.
Whenever you need to buy something, you take the appropriate envelope and only spend what’s inside. This helps you stay on budget and avoid overspending. When you run out of money in an envelope, you know it’s time to stop spending in that category until you get more money.
The cash envelope system can be used for any budgeting goal, whether it’s saving for a holiday or paying off debt.
Can I Use a Cash envelope system online?
One of the main reasons people can overspend on debit and credit cards is because they don’t physically touch or hand over any money. Tapping a card on a contactless card reader makes impulse buying and unnecessary spending very easy, which is why lots of people prefer to use physical cash for the envelope system.
However, there can be some drawbacks to the physical cash envelope system. Firstly, some people may not wish to carry around their entire month’s spending money in case of loss or theft. But if you venture out without it and suddenly find that you need money, you may need to use your bank card and end up spending outside your designated cash envelope budget.
You may also miss out on collecting cashback via your debit card with apps such as Airtime Rewards and Cheddar if you choose to use cash – although if it curbs your spending significantly then you may save more using physical money than the cashback you would have earned.
Similarly, if you lose your bank card you can quickly and easily place a block on the card, but if you lose physical money there is no way for the bank to help you reclaim this.
For this reason, I like to use a ‘Virtual’ cash envelope system. I have an account with Starling Bank which makes it extremely easy to set up my virtual envelopes within the Starling bank app. This way you can keep track of your spending in each category, while still spending with a card.
Of course, you could also do a mixture of both, and withdraw cash for your entertainment budget for example, but keep your petrol / train fare money in a virtual pot. This way you may only be carrying a smaller amount of cash around, and handing over the physical money for that second latte or unicorn shaped cushion in B&M just may make you think twice.
Whichever way you choose to set up your cash envelope system, the following instructions will work for both a physical and virtual system.
How to set up a cash envelope system
Step One – Identify your fixed and variable expenses
The first thing you need to do is to work out your monthly budget. This is a whole other post in itself, but you can download your free Workout Your Wallet budgeting ebook to help with this process.
Once you have figured out your budget, divide the categories between fixed and variable costs. It is likely that you already have direct debits and automatic payments set up for bills such as Mortgage / Rent, Electricity, Insurance etc.
My personal preference would be to exclude these bills from your cash envelope system and leave them to go out automatically. After all, there is no sense in over complicating a system that is already set up to work seamlessly.
What categories should I use for a cash envelope system?
Rather than your fixed expenses, it is the variable, pay-as-you-go costs that the envelope system works best for, such as:
- Travel costs, e.g. Petrol / Diesel, Train fares etc
- Eating out
- Hair & Beauty / Toiletries
- Hobbies & Sports
Everyone has different lifestyles and spending habits, so pick the categories that make the most sense for you. Personally, I don’t recommend cash envelopes for sinking funds such as saving for Christmas or a vacation, as these are savings funds, not spending money. They are better off in a savings account so you aren’t tempted to dip into the money, or worse, have the money misplaced or stolen.
Once it is time to spend in these categories, for example, Christmas shopping, you can withdraw the money when needed if you prefer to hand over cash than pay by card.
Step Two – Decide how much your need per month for each budget category
For each of your variable expenses, decide how much you are going to budget for each one for the month (or week, depending how often you get paid).
Try to be realistic and set achievable amounts. If you constantly go over the designated amount in the beginning, you may feel demotivated very quickly. You can always adjust your budget later on.
Step Three – Fill Your Envelopes (or your virtual savings spaces) with Money
Next, withdraw the cash to put in each envelope, or do this virtually if using online savings pots. It is very satisfying to see your envelopes full – whether physically or just as a number on the screen – and it can be a bit of an eye opener in itself as to how much money you spend on your everyday expenses.
Step Four – Only Spend What You Put in the Envelopes!
It may sound like stating the obvious, but sticking to this step can be the hardest part of the process. It is also the most satisfying when you manage to stay on track for the whole month, and even have some money left over!
What should I do with any money left over?
There are several things you could do with any left over money at the end of the month.
Firstly, it could be deducted from next month’s budget, meaning less of an outgoing from your next month’s wages. For example, if you budget £100 per month for petrol and have £20 left at the end of the month, you only need to transfer £80 from the next month’s wages to get back up to £100 in your cash envelope.
This means you will have more money in your budget to designate to another cause, such as paying off a credit card or adding to a savings account. if you consistently found yourself with leftover money in a particular category, you could always relook at your budget.
Secondly, you could put it into a specific sinking fund related to the category. The £20 leftover petrol money could go into a car maintenance sinking fund. Leftover entertainment money could go into a holiday / vacation fund.
The third option would be to take any leftover money and save it up for something to really treat yourself. Yep, I said it!
I think often when budgeting we can be so strict with ourselves that we feel we can never have a treat until all debts are paid off, or all savings pots are full.
So yes, if you are currently paying off a big credit card bill due to buying yourself lots of treats in the past, then you might want to put the money towards paying down the debt first.
But, if you are on target with all your payments and savings, giving yourself a treat every now and then is a great way to keep motivated. Look at it as a reward for staying under budget with your cash envelope system!
Where to find envelopes for cash envelope system
There are many options for what to use for your cash envelopes. There is nothing to stop you from using plain old envelopes, but to make the system more appealing, many people seek out specially designed cash envelope wallet systems.
I really like this budget binder system, because it looks robust enough to keep everything secure and organised in one place.
Another option is to use print at home cash envelopes. You can find lots of options for this on Etsy, or head to the shop section of the website.
Top Tips for using a cash envelope system
When going out, take only the envelope with the money you need
This will help ensure you are only spending money from the designated category and not dipping into other envelopes.
Track your spending by writing down each purchase.
You could use a notebook or spreadsheet, or many cash envelopes have a notes section on the front. This binder system I referred to above also has a notes section for this purpose.
Re-evaluate your budget every month and adjust it if necessary
This is key to ensuring the system is realistic. If you are constantly overspending in a certain category, perhaps you are being unrealistic about the amount of money designated to it. If you identify that it still consists of lots of unnecessary purchases, you can be better equipped to be aware of this and look into the reasons why.
For example, do you always buy lunch on a Thursday because you’re in a rush? If this is something you want to avoid, how could you organise your time differently to change this?
Don’t be too hard on yourself
If you go over budget, try not to think of it as a big failure. As stated above, recognising when you are overspending means that you are in a much better position to identify any spending problems as they arise.
By following these tips, you can make sure you stay on track with your budget and avoid overspending.
What are your thoughts on the cash envelope system?
Do you use a cash envelope system at the moment, or are you going to try it out? Do you think a virtual or physical cash envelope system would work better for you? Leave a comment and share your thoughts with the community.
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About the Author
Melissa is a working parent who left behind a senior management salary for a better work/life balance. Following her own money saving and money making strategies she was able to clear debt and live a life she loves. Blogging, selling digital products on Etsy and selling preloved items on eBay are her favourite side hustles. Read her story here.