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How Incremental Budgeting Incentivizes Wasteful Spending

Whenever your association’s fiscal year starts, it probably feels like you’re always in “budget mode”, either preparing the upcoming budget or recovering from the last budgeting process that produced an inevitably flawed product. But that’s ok.  Budgets are just a plan and plans have a way of changing.  


The Wrong Budgeting Process Is Costing You Money

While not much can be done to improve our ability to accurately see the future, we can keep refining budgetary processes to make them as accurate as humanly possible. But in doing so, we need to ensure that the processes themselves don’t invite wasteful spending.

Enter the age-old argument of which budgeting approach is superior; the incremental budget, where the budget is built with the previous year’s numbers as a starting point, or the zero-based budget where the process starts from ground zero. There are certainly pros and cons to both methods, but with the possible exception of some very small associations with very simple budgets, zero-based budgeting is the clear winner when it comes to protecting against wasteful spending slipping into the budget itself.


Inefficiencies Built In To The Incremental Budgeting Model

There are lots of ways associations can unintentionally lock in excess spending with their budgeting process and approach.  By its very nature, incremental budgeting is far more likely to perpetuate inefficiencies and waste by allowing resources to continue flowing and building, year after year, to areas of the association that do not require them.

Additionally, adopting an overly optimistic incremental budget, where leaders project a rosier picture than warranted, creates a potential nightmare scenario that can unleash a lot of new spending as well as relaxed adherence to normal cost concerns. Zero-based budgeting, done correctly, would temper those overly hopeful expectations by its fundamental requirement for detailed justification of all revenue and expenses in the budget.


Incremental Budgeting Creates Incentives For Budget Shenanigans

Budget padding is a common practice among many budget managers, who overstate expected expenses to give them a greater margin of error in managing their budget. That can occur in incremental and zero-based models but is more pernicious in the incremental budget because the extra padding continues to build on itself every year, where the slate is wiped clean each year in the zero-based budget.

Further, incremental budgeting creates an additional perverse and costly incentive to game the system.  Nearing the end of the fiscal year, managers who haven’t spent all the money they had budgeted in certain areas are essentially encouraged to splurge on unnecessary expenditures. They know that with incremental budgeting any underspending may result in having their budget reduced the next year.  So many of them manufacture ways to spend those dollars before the year ends.

With zero-based budgeting, what happens this year doesn’t impact the next budget, so there is no benefit or incentive to unnecessarily splurge before the end of the year. 


The Best of Both Worlds?

While zero-based budgeting is superior in preventing waste from being baked into your budget, most associations still use incremental budgeting for a variety of reasons. For those reluctant to completely scrap their existing incremental budgeting methodology for a zero-based alternative, you might consider an approach that can be built into either an incremental or zero-based model. It’s a “top-down, revenue-first” methodology that avoids the wasteful elements inherent in incremental budgeting. 

Start by forecasting total revenue for the fiscal year.  You can do so using either an incremental or zero-based approach. Once you have your revenue budget, senior management determines how that money gets divided up among the various departments/cost centers, leaving department staff to then figure out how best to allocate their share.  While expense budgets can then be built based on previous experience, department staff must tailor their budget to meet a specific spending target. That encourages efficiency in planning, with little incentive or opportunity for budget padding or end-of-year splurging.

Click here to dig deeper on how to implement a highly effective zero-based budgeting process

See More Ways ACRE Can Help Your Association Shed Non-Essential Costs

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