(NewsNation) — As Americans look ahead to 2025, they do so hoping for more economic stability than they found this year when inflation and the cost of necessities like groceries caused much of the middle class to struggle to make financial ends meet.
With the New Year looming, U.S. residents may be considering how they need to adjust their budget to live within their means. However, while sticking with traditional budget plans may be tempting, some financial experts advocate for the use of an incremental budget, which allows consumers and business owners to adjust their budget in smaller chunks.
What is the envelope budgeting system?
Like with any financial exercise, shifting the way one budget has pros and cons that need to be considered. Here’s what you should know as you begin to plan for your financial year ahead.
What is incremental budgeting?
An incremental budget uses a person’s or business’ current budget as a base and then allows for adjustments to be made based on the current economic climate.
The incremental budget is built by taking the previous year’s budget and then adding in costs based on expected increases or decreases in spending, according to Datarails.com.
Experts suggest using the rate of inflation to calculate how much of an increase should be added to a budget from the previous year. Other factors that could also be included in determining how much of an incremental increase should be added are sales prices and costs.
This method of budgeting has been used by businesses and governments for decades, according to bill.com. Incremental budgeting is considered a precursor to zero-based budgeting, in which the budgeting process begins from a base of zero rather than relying on past budgets or a business’ performance.
Under incremental budgeting, current budget numbers are used to estimate a starting point for the upcoming budget period. From there, additions or subtractions are calculated in increments to create the new budget.
However, while the changes may be made in smaller bite-size amounts, budget experts say that individuals or businesses must consider each budget item on a line-by-line basis to ensure that each portion of the new budget has been fully evaluated.
Pros of incremental budgeting
The simplicity of using incremental budgeting is considered one of its greatest strengths.
Because an individual’s or business’s current is used as a base, shifting to an incremental budget does not require a lot of legwork, experts say. For businesses that experience stable or predictable performance standards, making changes to a new budget does not require the user to make sweeping changes.
Instead, adjustments to the coming year’s budget are made in small amounts, which require less time and effort in setting up financial plans for the upcoming year. In a business setting, because the adjustments being made for the new year are made in smaller amounts, an incremental budget is often met with less resistance, experts at datarails.com say.
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This form of budgeting also allows individuals or businesses to make changes using a “baby-step approach” rather than feeling like significant changes to a financial plan are required. With the level of change remaining smaller and since the budget is already based on familiar information, tracking changes from the previous year to the present time becomes much more manageable.
Cons of incremental budgeting
Experts at bill.com warn, however, that because incremental budgeting is based on an individual’s or business’s budget needs each year, it’s not uncommon for the entire amount to be spent to ensure the same amount (or more) is received the next year. The website said that this practice can lead to unnecessary spending that is not properly vetted.
Another possible pitfall is created because the existing budget is used as a base; enough consideration isn’t given to in-depth analysis and evaluation of what is being spent. Financial experts also believe that the use of an existing budget allows inefficiencies to carry over to the new year without being scrutinized or possibly eliminated.
In a business environment, because changes are made on smaller or incremental levels, managers can become complacent and lose a sense of urgency about finding ways budgets can be improved, datarails.com says.
Meanwhile, for businesses that may be considered volatile and may require more flexibility in their budgeting practices, incremental budgeting may not be the best course of action.
