Budgeting can be understood as the process of creating a budget, which is nothing but a quantitative statement of incomes and expenses, created and approved, for a specific period, which should be followed during that period, with the aim of achieving the objective. There are two types of budgeting techniques namely traditional budgeting – targets set in the previous year, budgeting is performed, by making certain additions and deductions, to reach the present budget and zero-based budgeting – there is no reference is made to the previous year targets.
Traditional Budgeting incorporates the previous year expenditure in the new budget proposal and only increments are a matter of debate. On the other hand, zero-based budgeting is based on the assumption that every rupee of the expenditure, should be justified.
The article presented to you give a brief description of the differences between traditional and zero-based budgeting, take a read.
Content: Traditional Budgeting Vs Zero-Based Budgeting
|Basis for Comparison||Traditional Budgeting||Zero-Based Budgeting|
|Meaning||Traditional Budgeting alludes to a technique of preparing budget, that takes immediately preceding year's budget as a base.||Zero-based budgeting means a budgeting method, whereby whenever the budget is set, the activities are re-evaluated.|
|Focuses on||Previous level of Expenditure||New economic appraisal|
|Orientation||Accounting oriented||Decision or project oriented|
|Justification||Justification of current project is not required.||Justification of current and proposed projects is required, considering benefits and costs.|
|Justification Authority||Justification is given by top management for the particular decision unit||Justification is given by the manager for the particular decision unit.|
|Priority||Mainly to past level of spending, then to demand for inflation and new programs.||Decision unit is divided into comprehensive decision packages, and ranked as per their relevance.|
|Clarity and Responsiveness||Lower||Comparatively higher|
|Approach||Routine Approach||Straight forward Approach|
Definition of Traditional Budgeting
Traditional Budgeting is a method of budgeting that depends on the traditional cost accounting, in the sense, it is based on allocation, apportionment, and absorption of overheads in products.
The budgeting employs incremental approach, in which current year’s budget is prepared with the help of previous year budget, i.e. by making adjustments up or down in the previous year’s budget, to show changing trend for the upcoming year. The expenses for the new year are adjusted according to the rate of inflation, consumer demand, market condition and so forth.
Definition of Zero-Based Budgeting
Zero-based budgeting, as the name suggest, is the budgeting technique that requires the preparation and explanation of each budget from zero. It is a method in which all the activities are reassessed, every time the budget is created. It is created without making any reference to the base past budgets and actual happening.
In simple terms, it is the budgeting technique in which the cost component needs specific justification as if the activities relating to the budget were carried on for the first time. Thus the burden of proof is on the manager to explain the reason for spending money on a particular activity and also explain, what would be the consequences if the proposed activity is not undertaken and no money is expended. In the absence of approval, the budget allowance is zero.
Zero-Based Budgeting requires activities to be assessed in decision packages, which are measured by systematic analysis and ranked according to their significance.
Key Differences Between Traditional Budgeting and Zero Base Budgeting
The fundamental differences between traditional and zero base budgeting, are given hereunder:
- Traditional Budgeting refers to the process of planning and budgeting in which previous year’s budget is taken as a base to prepare a budget. On the other hand, zero-based budgeting is a technique of budgeting, whereby, each time the budget is created, the activities are re-evaluated and thus started from scratch.
- The traditional budgeting stresses on the former expenditure level. On the contrary, zero-based budgeting concentrates on making a new economic proposal, whenever the budget is set.
- Traditional Budgeting is accounting oriented, as it works on the basic cost accounting principles. As against this, the zero-based budgeting process is decision oriented.
- In the preparation of the traditional budget, justification of the existing project is not at all required. In contrast, in zero-based budgeting, the justification of the existing and proposed project is required, taking into account the cost and benefit.
- In traditional budgeting, the decision on why a particular amount is spent on a decision unit is taken by the top management. Unlike, zero-based budgeting, the decision regarding the spending a specified sum on a decision unit, is on the managers.
- In traditional budgeting, the primary reference is made to previous spending level, followed by demand for inflation and new programmes. As opposed, in zero-based budgeting, a decision unit is split into decision packages which are comprehensive in nature and then they are prioritized on the basis of their relevance, to facilitate top management to concentrate on the decision packages only, which got preference over others.
- When it comes to clarity and responsiveness, zero-based budgeting is better than traditional budgeting.
- Traditional budgeting follows a routine approach, whereas, zero-based budgeting follows a straight-forward approach.
One of the major drawbacks of traditional budgeting is that the managers on purposely escalate the budget proposal so that despite elimination, they can easily achieve, what they desire. On the other hand, zero-based budgeting involves a comprehensive analysis of the budget proposal and thus if the managers make immaterial adjustments so as to achieve what they want, are probably exposed.
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