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Budgeting With the 3 Bucket System

man balancing money and billsBased on my experience as a financial planner and a partner of Atkinsons Chartered Accountants, most Americans have no clue what they should be spending on their lifestyle. The problem is that most of us are not anticipating the “unexpected” expenses like car repairs and medical bills. It’s rare that these are actually unexpected; it’s more of an issue of failing to plan for those expenses. What follows is some financial advice for anyone who struggles with budgeting in general and budgeting for lifestyle expenses.

The 3 Bucket System

We’ve recently started introducing our clients to a powerful new tool that helps you determine what lifestyle you can really afford. It’s a system called First Step Cash Management. We refer to it as the “Bucket System” because it divides your money into three “buckets.”

Bucket #1. Recurring fixed expenses: debt payments, insurance, taxes, utilities, etc.
Bucket #2. Lifestyle expenses: food, clothing, entertainment, etc.
Bucket #3. Future Spending: medical deductibles, vacations, future car purchases, retirement
accounts, etc.

The Genius of the Third Bucket

The real genius of the system is that you start with the third bucket. To find out what your lifestyle really is, you first determine how much of every bucket systempaycheck you need to be saving toward future expenses.

Most Americans don’t do this. We know the roof will eventually need to be replaced, the car will break down, and little Johnny will have medical expenses. We fail to save for these and instead declare a family emergency when they happen, all too often resorting to credit cards to cover the expenses we haven’t planned for.

Making the bucket system work for you

1) I suggest having the future expense amount deducted from your check and sent straight to a savings account that is your bucket number three. It’s possible to have a savings account that will automatically send a predetermined amount of each deposit to a sub-account titled for the exact expense, like “Vacation Account” “Car Repair Account,” etc.

2) Once this amount is subtracted from your paycheck, you send the rest of it to a fixed expenses checking account that will be used only for paying your monthly fixed expenses. This is bucket number one.

3) Determine your monthly surplus. The final step to determining your lifestyle is to figure out the monthly surplus after all your fixed expenses are paid. Multiply that by 12, then divide by 52 to get the weekly amount you can spend on day-to-day expenses. This is the lifestyle you can afford. Set up a weekly transfer for that amount into a lifestyle checking account that will be for expenses such as food, clothing, eating out, etc.

Here’s the good news: you can blow everything in this checking account on a weekly basis. The bad news? If you run out before the next weekly deposit, you can’t transfer more money into it, from anywhere. You may have a few lean days if you haven’t planned well. Since these expenses are figured weekly, you never have more than a few days of deprivation before you have money available again.

The Benefits of Artificial Scarcity

In a recent Money magazine article, writer Ismat Sarah Mangla interviewed Eric Kies, who helped develop the system. He said all a person needs to do is watch the balance on the lifestyle checking account. “The system creates ‘artificial scarcity,’ forcing you to live on less and within hard boundaries.”

family managing moneyTransform Your Financial Life

Many families who have had a tough time managing money have adopted this system and have transformed their financial lives. Kies has created a software program that applies the system automatically. It isn’t available to the general public at this point, but he is licensing financial planners to use it. Ask your financial planner if they have the software available.

So what do you think? Do you agree that this system could be useful to you? Could you make it work for you or your family? Let us know what you think.

You can learn more about the bucket system by viewing a video here. KFG clients can find out more by emailing us or calling our office at 605-343-1400.

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