What Are Sinking Funds and Do You Need One?
What are sinking funds? Sinking funds are accounts set aside to save up for certain items that often come up outside of our normal monthly expenses and may catch us unawares. Some examples of these costs are car repairs, insurance, holiday or birthday gifts, vacations, that new iPhone, or family contributions (immigrants will understand this). If you’re like me and you forget about your annual car registration or insurance bill until you receive the bill in the mail, sinking funds are the answer!
Why Do You Need a Sinking Fund?
A sinking fund is a way to be intentional about putting money aside for those irregular expenses or fun purchases that come up. With a sinking fund, you won’t have to take funds out of your emergency funds, and you won’t feel guilty about a splurge. Sinking funds save budgets and consciences! Nobody wants an expensive surprise! I’ve had sinking funds for over a decade now and I don’t think I can go back to life before sinking funds.
What’s The Difference Between A Sinking Fund and a Savings Account?
In all honestly, a sinking fund is not different from a savings account. The savings account is the vehicle/tool. Actually, we’d recommend putting your sinking funds in savings accounts. The key difference between a savings account and a sinking fund is the INTENT/PURPOSE.
For example, I incur $150 in rental insurance annually, $450 in car insurance semi-annually, and I like to go on vacation every year. Within a sinking fund here’s what I could do:
1. Set aside $12.5 ($150/12) monthly in my sinking funds towards my annual renters’ insurance
2. Set aside $75 ($900/12) monthly in my sinking funds towards my car insurance
3. Set aside $100 ($1200/12) monthly towards vacation
In this example, a total of $187.50 should be put aside monthly in sinking funds. Add sinking funds to your budget like an expense line item and don’t ‘skip it’ because the payments aren’t immediately due. By saving these amounts monthly throughout the year, once it’s time to pay for the expense, you don’t have to break out in a sweat!
What’s The Difference Between A Sinking Fund and Emergency Fund?
Again, it comes down to the purpose/intent for the funds saved in a sinking fund vs an emergency fund. Sinking funds are for expected expenses/purchases while emergency funds are for unexpected expenses that creep up on you.
How Many Sinking Funds Do You Need?
As many as you’d like! You could save up for anything and everything under the sun. I personally have sinking funds for travel, family, car, and insurance. Some other sinking fund categories are:
• Wedding savings,
• Baby birth savings,
• Home repairs,
• Vet bills, and so on.
How To Organize Sinking Funds
You can track sinking funds individually and establish bank accounts for each category, or you could lump all sinking funds into one sinking fund savings account. However, I personally go with the former as it makes the purpose of each account clear but either option works. If you decide to lump all sinking funds into one account, make sure to keep track of the different subcomponents.
Where Should You Keep Sinking Funds
You can save your sinking fund in a regular savings account or in a high-yield savings account. I would not recommend comingling sinking funds with a regular checking/current account.
Now that you know the definition of a sinking fund, you know why they’re beneficial, and you know how to organize them. Are you are ready to brainstorm the sinking fund categories that you’d like to set up? Let us know in the comments!