In many companies, there’s this policy which requires awarded budget that must be spent completely once it’s approved. If the annual spend is below the allocated annual amount, there’s a chance next FY you won’t get the requested budget you asked for.
– why do such policy exist?
Isn’t it better to carry over unused expenses to the next FY? Saving expenses expenditure is a bad thing? Such a policy encourages employees to spend extravagantly the remainder amount nearer to FY-end.
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The interests of the company and the manager are not always perfectly aligned.
Overspending is bad and so most budget owners will aim to underspend for the year especially in the early months, so for example after 6 months of the year they’ve spent only 5/12 of their budget.
Having reached the final few months of the year, the manager now knows the risk of overspending has passed.
They now have a different risk – if they underspend this year then the base expectation would be the next fiscal budget would based on this underspend. (Budgettjng rarely starts from scratch and is an adjustment of them prior fiscal).
Therefore spending often increases in the later months so that over the full year the actual spending is within a few % of the planned spend, ideally on the underspend side.
There is not usually an actual policy.
It’s the fact that if a division shows that it can do the job with less resources then given they will be given less resources in the next budget, because why would it need more? it’s shown it could do the job with less.
By spending the entire budget (even on seemingly stupid stuff) they can argue for the same or larger budget next time.
Let’s say you run the IT department of a company. You had a great year with very few computer upgrades or replacements needed, so you only spent 4/5ths of your budget. Next year your budget gets cut by that 1/5th. Now you have a rough year where everything seems to break, and while you could have covered it with the old budget, you can’t under the new one; and the higher ups have allocated that money elsewhere. Now your stuck trying to make do, and you look bad doing so.
As a result, you waste/use up the remaining budget so it doesn’t get cut next year.
As a cost accountant who set annual budgets for 15 years, it is because we take the money away if you dont spend it. We are usually trying to account for increased supply costs of 3-5%, plus some random budget decrease upper managemnet pulled out if their butts, so uf you have a surplus, we will yank it so fast it will make your head spin.
Money left over is not being used to make more money, and should be allocated to areas that will use the money.
If you start the year with an allocated budget, you are careful to make it last to cover emergencies and essentials. When you have limited time before the next budget arrives you can switch to the ‘nice to haves to increase productivity/replace before they fail’ it’s basic common sense not rocket science. It is a tried and tested approach that works. Underspending is a recipe for future unexpected expenditure.
>Isn’t it better to carry over unused expenses to the next FY?
To measure performance (budget vs actuals) the budget needs to follow GAAP rules. The income statement is closed and resets every year. For the actuals, it is not possible to carry over income/expenses. The budget needs to follow a similar pattern.
Then there’s a matter of tracking. If you did carry over unused expenses, it would be a big hassle to track net expenses. Is this $1 counted against last year’s saves or this year’s budget? And you’d need to do this by invoice line and by account. It would be easy to game the system by always counting against current budget and letting the previous reserve grow. You’d have to use some type of inventory accounting, FIFO/LIFO so that dept managers couldn’t game the system.
OK sorry, I’m rambling. Net effect is that for the income statement, expenses do not carry over into a future year. The budget needs to follow the same convention.
This was a big problem working (as a civilian) for the military. Budgets literally required acts of Congress to change and the massive amount of departments allocated to each of them were so far outside of my control. It could theoretically be done a thousand times more efficiently but that would require a whole bunch more micro research and management that ends up being considered more trouble than it’s worth.
People are bad at estimating things, and its much harder to get more budget at most companies. So if you underspend and lose the budget, you have instant FOMO for the next year, and if you actually need more, it’s a pain to get.
You might think but its so easy to lookup that you gave up a million dollars last year, why would it be hard to get 20k? And that’s just one of the great mysteries of corporate finance.
You also have a general lack of real responsibility for checking this stuff. Proper accounting and estimation for budgets and efficiency is hard and time consuming. Very few companies truly try to do it. So you’ve got department managers blowing remaining budget last second, and no one challenging it, and things just keep on chugging along.
So long as the total budget for the company fits at the end of the year, there’s not a lot of time spent looking into the details of that.
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