You know that you should save money, but it’s so easy to get distracted or forget about your savings goals. You always say you’ll do it later, but a later date never seems to come.
Starting a sinking fund is exactly what you need to save money and ensure that you’ll always have enough for the things that matter most in your life.
What’s A Sinking Fund?
Most people hear about these with businesses who need a sinking fund provision to back up bonds for investors’ peace of mind. But it’s a lot simpler for personal finances!
Adding a sinking fund to your financial plan ensures that you have money for irregular expenses. A sinking fund is simply a savings account set up expressly for this purpose.
A sinking fund is a separate account where you automatically transfer funds out of your checking account into a dedicated sinking fund each month to save for a specific goal.
The amount transferred to fund a sinking fund is also part of your monthly budget, so you’ll know exactly how much extra money you need to save each month.
When you have a sinking fund, you don’t need to worry about coming up with the money all at once – you can slowly save over time until you reach your goal!
You only withdraw money when needed to pay for a specific item or cost. For example, if you’re saving for a vacation, you would only withdraw money when you vacation.
Who Needs A Sinking Fund?
Sinking funds are essential for everyone. They’re a great way to save for things like a new car or a down payment on a house. You can also use them to save for significant expenses that may not happen regularly, like your annual holiday budget.
It helps you manage your money by saving money automatically each month to keep you from going into debt later when large purchases are needed or an irregular expense arises.
No, really – everyone would benefit from saving this way.
Sinking Fund Examples
Some people may want to create sinking funds for next year’s vacation or Christmas gifts, while others want to save for unexpected medical expenses.
Still, others may open one to have money set aside for repaying debt in a lump sum.
There are many different examples of sinking fund categories- let’s take a look at some of the most common examples.
Furniture is a typical purchase that people make. If you know you need to buy a new couch next year, you can set aside a monthly amount of money specifically for furniture.
Opening a sinking fund will help keep your saving on track and ensure you’re not putting the entire cost of the new couch on your credit card.
Car repairs can be costly, and they don’t always happen at the most convenient times.
If you plan to own a car for several years before buying your next one, start creating a sinking fund now to cover repair costs.
Then when your car breaks down, you’ll have the money to cover the cost of repairs and car maintenance without borrowing money or swiping your debit card.
New Car Purchase
Cars eventually need to be replaced. If you don’t want to get a car loan, start saving for a new car now by creating a sinking fund.
Buy your next car with cash by setting money aside each month until you reach your goal.
House Repairs & Maintenance
Similar to car repairs, sinking funds can be helpful when it comes to house repairs.
Houses do need new roofs and various other maintenance occasionally, and you’ll want to make sure that your sinking fund covers these costs.
By having a sinking fund for your home repairs, you can write a check for the amount needed when your roof needs repairs.
When you’re self-employed, there are a lot of costs that come with the territory.
You may need to buy your health insurance, set money aside for self-employment taxes plus state and federal taxes, or invest in equipment or software.
One way to help offset some of these costs is to create a sinking fund specifically for self-employment purposes. It’s helpful to make a savings account for your self-employment expenses.
Pros & Cons of Sinking Funds
There are many reasons you may want to use or not use a sinking fund. Here’s an overview of some pros and cons:
A sinking fund helps reduce financial stress. Sinking funds provide a sense of security. People have peace of mind knowing that these funds exist if needed.
Sinking funds make financial goals more achievable. You can start small and then slowly put money into your account each month until it builds up to the amount of money that you need for your goal.
Sinking funds make saving less intimidating. It can be tough to think about saving a lot of money. But if you break the amount of money down into smaller chunks, it becomes more manageable.
A sinking fund can help you avoid going into long-term debt. You can use the money in your account to pay without accruing debts by borrowing the money or maxing your credit cards, which offer higher interest rates.
Sinking funds are a great way to teach your kids about saving. Kids learn best by example. When they see you setting aside money each month for a specific goal, they’ll be more likely to do the same when they’re older.
They are great for long-term financial planning. You can use the money you save to pay for any dream or financial goal, like retiring or college for your kids.
Sinking funds help you become more intentional with saving. It can get confusing trying to track 2 separate savings goals if your money is put into the same savings accounts. Opening different accounts for your various savings goals will help you stay organized and on track. Keeping them in the same place, like Chime, will help you see all your goals at a glance.
They can be time-consuming to set up and maintain. It takes time to set up the accounts and figure out how much you need to set aside, plus how often you make deposits.
You might spread yourself too thin by trying to use a sinking fund. If you’re already struggling with your budget and debts, a sinking fund might not be the best option.
Sinking funds can be tempting to raid if you find yourself in a financial bind. If you don’t have the willpower to resist raiding your fund, it might not be the best option for you.
Multiple sinking funds can be expensive to maintain if you have many sinking funds. If you have three different funds for car repairs, home repairs, and vacations, it can be costly to keep up with all of them. Check your financial institutions to see how much it would cost to open and maintain multiple accounts.
Having several sinking fund savings accounts can get complicated. Keeping track of them all can be a hassle. Use a personal finance management tool to help you keep track of your different accounts.
Sinking Fund Vs. Emergency Fund
You may be thinking, “why do I need a sinking fund? I already have an emergency fund.” While sinking and emergency funds have their benefits, they are not the same.
Did you know the average American should be saving 3-6 months’ worth of expenses in an emergency fund?
That means if you spend $1,000 a month, you should have at least $3,000 – $6,000 set aside for emergencies!
An emergency fund covers the unexpected expenses that come up in your life. It’s a separate savings account that you use to pay for things like minor car repairs, emergency medical expenses, or a car accident.
A sinking fund is different from an emergency fund because it’s for planned expenses. You know in advance that you will need to pay for a new roof or a trip to Europe, so you save specifically for those things.
Sinking funds aren’t meant to be used to cover unexpected emergencies. If an emergency happens, you should use your emergency fund instead.
Sinking Fund Vs. Savings Account
It’s easy to think that a savings account and a sinking fund are similar. But there are differences, and it’s essential to understand what each is.
The main difference between a sinking fund and a savings account is that your savings account is a place where you set money aside to access it quickly if needed. On the other hand, you set up a sinking fund expressly to save money for future purchases or savings goals.
Where can I open a sinking fund?
Since you want to keep your sinking fund utterly separate from your other accounts, look for a place, like Chime, that will allow you to open an account specifically for this purpose. You’ll find several banks and credit unions online or in your local area to help open these types of accounts.
How many sinking funds should I have?
There is no one-size-fits-all answer to this question.
You’ll need to decide based on your needs and the planned expense you will save for. Keep in mind that you can have multiple sinking funds for different types of expenses, but it will take some time and possibly cost money to keep track of several accounts.
How much money should I have in my sinking fund?
The answer to this question is different for everyone. You should have enough money saved up so that you can comfortably cover the expense without taking on more debt.
For example, if you want to save for a $2000 trip, you’ll want at least that much saved up or more so you have some wiggle room for other fun on your trip. But if your monthly budget is tight and you can only fund a sinking fund with $50 per month, it will take a while to reach your goal.
What fund should I start first?
Start your own sinking fund for a known expense coming up soon. This way, you will set the cash aside before it happens, and you won’t risk more debts to cover it.
Remember, you can have different sinking funds for various expenses, such as a down payment, home repairs, and vacations. Take a look at what you need to save for and start planning now.
So, should you create a sinking fund? The answer is ultimately up to you, but we think they’re worth considering for most people.
Remember, it is a great way to ensure you’re not putting significant expenses on your credit card or a loan.
By setting cash aside each month specifically for a purchase, you’ll be able to buy it with cash without having to worry about high-interest rates or other fees.
If you choose to set up one, remember, sinking funds should only be used for significant one-time expenses – not everyday costs!