In what has become a depressingly consistent tradition, a recent Bankrate survey revealed that 61% of Americans would not be able to cover a $1,000 unplanned expense.
Unemployment is currently quite low by historical standards, so the problem is not that people can’t earn money. It’s more likely that, for a variety of reasons, most people are not saving enough of each paycheck to establish an adequate emergency fund. That being the case, using a budget to kickstart good savings habits is more important than ever.
I want to cover a particularly interesting strategy that doesn’t get much attention. It’s called “Bucket Budgeting,” and it can be a powerful tool for those of us who just can’t seem to help ourselves from raiding our savings for non-essential purchases or borrowing from one category to spend in another.
How to Implement Bucket Budgeting
Bucket budgeting is all about using multiple sub-accounts to set aside money for specific savings goals. So if you haven’t already, you first have to set up an online banking account. This can be done with your traditional brick-and-mortar bank, or with a separate online bank.
I recommend using an online bank that has a reputation for making it easy to set up multiple savings accounts. While you can set up multiple accounts with a brick and mortar bank, in my experience it’s generally inconvenient and there will be more fees involved.
I like Ally Bank for this purpose, but there are plenty of good options. As a bonus, many online banks offer much higher interest rates than traditional banks.
Whichever route you go, you’ll be dividing up all your savings into separate, clearly defined categories. The goal is to make sure that each dollar has a purpose.
For instance, after depositing a $1,200 check, you might leave $200 in your checking account and then allocate the rest of the money into the following sub-accounts:
- Emergency fund: $200
- Upcoming gas and electric bills: $150
- Wedding fund: $200
- New roof: $250
- Vacation: $150
- Play money: $50
If you get your paychecks via direct deposit, you can make it so that your money is automatically divided up into different sub-accounts with each deposit. If you deposit your checks manually at an ATM, it’s a little trickier to automate, but not much. All you have to do is log in to your account and set up a recurring transfer. For instance, if you get paid on the first of every month, you could set up a transfer for the third of every month that allocates specific amounts of money to your different sub-accounts.
(Note: When depositing a physical check into an ATM, you have to wait for the check to clear and then move the money around manually via your online account.)
With banks like Ally, there’s no limit to the number of sub-accounts you can make. If you want to get hyper-specific, go for it. There’s no shame in having an account called “Fund to Get My Tires Rotated in Six Months Because I Know It Needs to Get Done But I Always Forget.”
How Bucket Budgeting Can Help
As American Bankers Association communications director Carol Kaplan told Ally, “Research has shown that when people create accounts with a purpose, they are more likely to reach their goals.” Psychologically, it just makes sense. Which account are you more likely to raid if you feel the spontaneous urge to buy a new video game?
a) generic savings account with $3,000 in it
b) a sub-account with $200 in it all about rotating your tires
I’m betting on option A. By separating your funds, you should be less likely to spend frivolously and more likely to say on track with your goals.
As a highly visual person, this strategy appeals to me. I’d be very hesitant to touch my car repairs fund for anything other than its intended purpose. Just before pulling the money out, I think I would be able to imagine myself stranded on the side of the road, furious that I bought “Madden 2019” instead of getting my tires rotated.
I also like the idea of bucket budgeting for its ability to motivate. Saving without a goal in mind can be a slog. It reminds me of how many people see routine, day-to-day exercise as drudgery. But, once these same people get specific about their goals, the results can be dramatic. Look no further than how much effort people put into getting in shape for their wedding if you want to see how motivating a concrete goal can be.
The same principles apply to saving money. For instance, if you’ve always dreamed of taking a trip to New Zealand, it would be very motivating to watch your “New Zealand Vacation Fund” grow every month. I’d wager that would be far more motivating and effective than seeing a generic savings fund grow.
All in all, bucket budgeting gives you a sense of control over many different aspects of your life, and it can give you peace of mind in knowing that all the essentials are taken care of.
Saving as a Team
Another neat way to do bucket budgeting is as part of a group. There are online banks, such as SmartyPig, that allow multiple people to contribute to the same savings accounts. All the sub-accounts are viewable by everyone in the group, and you can even set goals.
So, if you and your roommates want to do a cross country road trip next year, you could create a fund called “Road Trip” and set the goal at $1,000, to be completed the following year. If you really wanted to be methodical about it, you could each set up automatic withdrawals from your paycheck so that a portion of it goes towards the fund.
This feature could also be very useful for couples who choose to keep separate finances. If a couple is saving up for a wedding, vacation, or a down payment on a house, they can both separately log in to SmartyPig to deposit money into that particular fund at any time.
The idea is that by automating and subdividing, you’re taking temptation and willpower off the table, two things that generally get people into trouble when it comes to money management.
I like to think of bucket budgeting as the money management version of the popular organization book “The Life Changing Magic of Tidying Up.” In that book, the goal is to make sure that every item you own has a place and a purpose. When you know where everything is and why it’s there, life is more efficient and easier to manage.
Bucket budgeting allows you to do the same thing with your money, making it a great way for you to get your financial life in order.