Far too many Americans don’t understand the difference between proactive and reactive budgeting. They have convinced themselves they use some type of budget each month, but that doesn’t mean they’re right.
Some falsely believe that having a basic understanding of your bills and expenses is the same as budgeting. Others think they’re doing great financially because they manage to move “extra” money to debt repayment at the end of the month.
Real budgeting is a lot more active than that. Instead of taking steps to manage your money as it comes in, active budgeting forces you to decide how each month’s income will be spent and allocated before the money hits your bank account.
That’s the real difference between proactive and reactive budgeting. Where proactive budgeting requires you to take early steps to manage your money wisely each month, reactive budgeting leaves you figuring out the best ways to manage your money after the fact.
Perhaps you’re still not sure what the main difference between proactive and reactive budgeting is. We shed some more light on it to help you understand.
How Proactive Budgeting Works
There are a few important reasons proactive budgeting leads to much better results, but it all centers around the fact you’re making intentional choices regarding your income and your spending. With proactive budgeting, you’ll:
- Look at how much you earn each month before the money comes in
- Create a plan for each dollar you earn, including allocating funds for debt repayment, savings, and investments
- Pay yourself first, including money you’ve allocated towards paying off credit card debt or investing for the future
- Follow along with your spending as the month goes on, taking special care to stay within parameters you’ve set in discretionary categories like groceries and entertainment
- Reconcile your budget with your real spending throughout the month and at the end of the month
- Tweak future budgets to ensure they’re realistic and easy to stick to
Here’s a good example of how proactive budgeting works. Let’s imagine you’re a 40-year old architect who brings home $60,000 per year, or $5,000 per month, after taxes are withheld from your paycheck. Your spouse works part-time and earns around $1,000 per month after taxes are withheld, bringing your monthly take-home pay to approximately $6,000 per month.
With proactive budgeting, you would sit down with your spouse toward the end of the month to come up with a spending plan based on your income and expenses for the following month. Not only would you account for regular and recurring bills like your mortgage payment and car insurance, but you would estimate spending in categories you have control over such as groceries and clothing.
Figure out how much money you want to save each month, plus how much you could pay toward your debt. From there, you would write it all down. Here’s how your proactive monthly budget might look:
Proactive Budgeting Example
- Mortgage payment: $1,800
- Car payment: $400
- Car insurance: $120
- Groceries and dining out: $700
- Health insurance: $500
- Gas and transportation: $200
- School activities: $250
- Utility bills: $250
- Savings account: $500
- Credit card bill #1: $500 (minimum payment is only $140)
- Credit card bill #2: $400 (minimum payment is only $200)
- Leftover money/miscellaneous spending: $380
Total monthly income: $6,000
In this case, proactively budgeting your money helps set you up for success. Not only did you set aside money to pay more than the minimum payment on your credit cards, but you set aside cash for savings as well. You also left $380 to spend on miscellaneous or “surprise” expenses that might pop up throughout the month.
But your proactive budgeting doesn’t stop here. With your plans written down in black and white, you would take steps to manage your money accordingly all month long. This means moving money you’ve allocated to debt repayment and savings as your paychecks come in throughout the month, but it also means tracking your spending to make sure you don’t overdo it in categories like dining and groceries.
Ideally, you’ll be intentional about your budgeting each month and make progress toward your financial goals along the way. As debt is paid off, you can allocate those funds elsewhere in your budget, either towards other debts or towards savings or investments.
Either way, every month is another chance to start anew and to be proactive for your future. Over time, your efforts will absolutely pay off.
The Problem With Reactive Budgeting
The opposite of proactive budgeting is reactive budgeting, which isn’t really the best way to accomplish your goals. With reactive budgeting, you might keep a simple list of your monthly expenses and liabilities each month. However, you wouldn’t compare your expenses to your income and you wouldn’t create a plan for each dollar you earn in the first place. Instead, you would simply pay your bills as the month goes along, then try to pay extra toward your debts and potentially save the rest.
Reactive budgeting comes with myriad problems and way too much waste. Here’s why budgeting as an afterthought is generally a bad idea:
- You’re not planning out your expenses and discretionary spending at the beginning of the month, which means you’ve chosen to “wing it” instead
- Failing to budget means spending more than you planned in discretionary categories like dining out and entertainment
- Reactive budgeting doesn’t require you to track your spending. So you may have no idea where all your money really goes each month
- You’re saving what is left instead of paying yourself first
- It’s easy to spend more than you planned and saving less than you would if you paid yourself first
Imagine if you earned the same $6,000 per month and had the same monthly bills. With reactive budgeting, you would pay your bills as they arrived, spend whatever on food and fun, and hope there’s money left over to save. Obviously, this strategy — if you can even call it a strategy — would make it too easy to waste money without even realizing it. As a result, you would be setting money on fire each month, taking longer to pay off debt, and reaching your savings goals at a snail’s pace, or maybe even not at all.
How To Get Started With Proactive Budgeting
To reach your financial goals, you need to be proactive and intentional when it comes to allocating your money. And remember that budgeting doesn’t have to be restrictive or boring, either. A monthly budget is nothing more than a plan for your income. Which also means you’re planning for things you want and not just bills.
Here are some tips that can help you set yourself up for budgeting success:
Track your spending from the last few months.
Before you can estimate your expenses for future months, it helps to know where your money has been going until now. Break out your last few months of bank statements and credit card bills to see how much you’ve been spending on groceries, dining, entertainment, hobbies, and more. From there, figure out if you’re spending too much and the best places to make some cuts.
Be realistic when it comes to discretionary spending limits.
Spending less on food and fun each month shouldn’t be overly difficult, but make sure to be realistic with your plans. If you’ve spent up to $1,000 on food each month and budget only $300 for groceries and dining the next month, for example, you’re almost destined to fail.
Budget for some splurges.
Also, make sure you’re budgeting for some things you want, whether that means contributing to a travel fund or budgeting some spending money for yourself each month. If you’re too strict and don’t let yourself have any fun, you’re more likely to give up altogether.
Leave some wiggle room for surprise expenses and bills.
Make sure you leave a buffer in your budget just in case. You never know when you’ll have to pay for an unusual prescription medicine or a gift for a birthday party.
Remember that mistakes happen.
Finally, don’t forget that budgeting isn’t an exact science. You’ll make mistakes and get off track sometimes, so don’t be too hard on yourself. Every month presents a new chance to start again and work even harder toward your goals.
The Main Difference Between Proactive and Reactive Budgeting
Does this all sound overwhelming? If you’re stressed over starting a budget for the first time, don’t forget that plenty of software programs can help. A lifetime subscription from Qube can help you start budgeting the right way. With the help of software that moves your money into virtual envelopes while tracking your spending as you go.
You can budget with pen and paper, but Qube can make the process easier to manage. Sign up to access tools that help you reach all of your financial goals in less time than you think.
Remember that proactive budgeting is the only way to go if you want to see results. Reactive budgeting is a “wait and see what happens” approach that doesn’t really work — even if your friends and neighbors think they’re doing fine.