The Power of Reverse Budgeting

Cash flow is a crucial aspect of your financial health and stability. It enables you to meet current financial obligations while simultaneously reaching future goals.

Having awareness of your cash flow (such as how much money is coming in vs how much is being spent or saved) gives you greater certainty and confidence when planning your financial future.

Lacking this vital awareness with your money makes your future a sitting duck to chance, creating more obstacles in the way of achieving your goals.

This lack of mindfulness and uncontrolled spending voids all the hard work of diligent financial planning you’ve put in, from strategic tax planning to managing a diversified portfolio.

One of the best ways to manage your cash flow is through budgeting. However, just the sound of the word can leave a bad taste in many people’s mouths.

It’s not uncommon to have a love-hate relationship with budgeting. Adhering to a monthly budget (especially a strict one) can feel incredibly restrictive and create unhealthy “binge” spending behavior.

Having an unhealthy relationship with budgeting is like never allowing yourself to eat sweets and then you’re suddenly surprised when you binge on all your favorite baked goods. It can create a scarcity mindset rather than one of abundance.

However, budgeting doesn’t have to be a dirty word that removes all the wind from your sails. You can still have an exciting, fulfilling life while saving money for your future.

So how can you save money while not feeling restricted by your budget? 

Reverse or inverted budgeting is a different approach that can be more effective in helping you achieve your financial goals.

Reverse budgeting flips the traditional budgeting process on its head. Rather than trying to live within your means and save the rest, you start by saving what you need to reach your goals first and then spending the rest.

A reversed budget can feel much less intimidating and restrictive. It puts your goals in the driver’s seat and your spending priorities in the passenger seat. To implement reverse budgeting in practice, you can follow these steps:

1. Calculate the amount that needs to be saved to reach your goals. 
   •  For example, if your goal is to have $2,000,000 saved for retirement by age 65, and you’re 25 years old with no current savings, you’ll need to save about $12,924 per year ($1,077 per month) to reach that goal, assuming a 6% rate of return and 40 years until retirement.
2. Save your money in the appropriate accounts. 
   • Prioritize tax-advantaged accounts like 401(k)s and IRAs first, followed by brokerage accounts. If you’re using a 401(k) or another employer-sponsored plan, you can often save the full amount needed to reach your goal if it falls within the contribution limits.
3. Put your savings on autopilot.
   • Set up automatic transfers from your paychecks to your savings accounts to make the process effortless and disciplined. If you don’t have access to an employer-sponsored plan, you can automate your savings to IRA accounts or brokerage accounts.
4. Build your new budget based on what’s left.
   • Once you’ve saved a sufficient amount to meet your goals, you can create a budget for the rest of your income. This should include your fixed expenses (like mortgage payments and insurance) and your variable expenses (like groceries and entertainment).

Reverse budgeting can be an effective way to manage your spending while reaching your financial milestones, but it’s not a perfect science.

If you find that your saving goal is too high, there are several steps you can take to reduce your expenses and increase your income. These may include cutting unnecessary expenses, finding ways to live on less, adding more to your occupational skills, and negotiating for a higher salary.

It’s important to have systems in place to maintain balance in your financial life. Without a plan or practice to manage your money, you may find yourself feeling overwhelmed. Striking a healthy balance between planning for your future and enjoying the luxuries of life will allow you to have a better mindset around your money and greater financial success.

Reverse budgeting can be a useful tool to help you do this, but it’s not the only solution. Ultimately, the most important thing is to find a financial management system that works for you and helps you achieve your goals without being unrealistic or restrictive.