Why It’s Important to Include Sinking Funds as Part of Your Budget

Why It's Important to Include Sinking Funds as Part of Your Budget

If you are wondering, “What is are sinking funds?” and “Why do I need to include it in my budget?” then here is some beneficial information that will help you to become more financially prepared for upcoming expenses.

What are Sinking Funds?

A sinking fund is a fund where you set aside money for expenses that are predictable. You know the expense is coming up and instead of waiting until the expense is due and there isn’t room in your budget to pay for it, you plan ahead for the expense by creating a sinking fund within your budget and set that money aside until you need to pay for that expense.

Many times when people start budgeting, there may be some expenses that they don’t anticipate such as an item in the home breaking that needs to be replaced or the car needing repaired. By creating a sinking fund, you’ll be able to spread out large expenses, or even smaller expenses, over time.  For many people this can be difficult to do because it requires patience and self control to plan ahead and to not spend money on other purchases immediately because they want those items right now.

Here is a list of expenses that you may want to create a sinking fund for and to consider including in your budget:

  • home repairs
  • new car or car repairs
  • family vacations
  • kids sports and activities
  • insurance
  • medical expenses
  • Christmas
  • subscriptions and dues
  • birthdays and gifts

 

How to Get Started on Sinking Funds

To get started on sinking funds, determine what expenses are coming up and which sinking funds you need. Calculate the total amount of money you will need in one sinking fund and what date you will need it. Then break it down into how much you need to save each month before the expense comes due. Begin saving that amount of money each month for the allotted time frame. For instance, if you know you want to save $1,000 to spend on Christmas and you begin saving in June, which leaves you about 6 months to save, then you need to put aside $166 each month (or $42 each week) to reach that goal before Christmas comes.

Another example is having a sinking fund for upcoming home repairs such as a water heater, A/C unit or appliances that may break down. For instance, a water heater usually lasts an average of 10-15 years. If you know your water heater is about that old and that it will cost $2,000 to repair it, then start a home repair sinking fund and set aside $50 to $100 each month so you have money to pay for a new water heater or other items around the house that begin to break and need replaced. Right now, our house is 12 years old and we haven’t had to replace our water heater yet, so this is a sinking fund we have begun to save for. We know our water heater will eventually break. We don’t know exactly when, but when it does, we will have saved enough money to pay for it because we have started saving for it now.

You could also create a sinking fund for those variable utility bills. A few of the hot summer months where the A/C unit runs more often, and a few of the cold winter months when it takes more to heat the house, are the months that the utility bills are higher. Instead of stressing if you’ll be able to pay the utility bill, plan ahead and create a sinking fund. Review last years’ utility bills and add up how much you paid out the entire year, then divide that by 12 to determine how much money to set aside each month.  For instance, if you spent $1,000 on heating and air conditioning bills last year, then divide that by 12 months, and you’ll know you need to set aside $83 each month in a utilities sinking fund.

You may think to yourself that you need a lot of sinking funds in order to pay for everything throughout the year. But start off by prioritizing which sinking funds are most important and which ones will come due first. Then focus on building sinking funds first for those items. Once you have those sinking funds funded, then you can re-prioritize and focus on the next sinking funds that are important.

A sinking fund is not to be confused with an emergency fund. An emergency fund is money set aside for the unknown. But a sinking fund is money set aside for an expense you know is coming and the time frame you know will need to use it. Head over here to learn more about building an emergency fund.

 

Where Should you Keep a Sinking Fund?

Sinking funds need to be in a location that is easily accessible. If it is a smaller expense that is coming, it’s okay to keep it hidden in an envelope in your home. But if it’s a larger expense such as for your home or car, it’s better to place it in a simple savings bank account. For our family, we have both envelopes for sinking funds, as well as a savings account for sinking funds. The envelopes are for our smaller expenses such as birthdays, mini-vacations and Christmas gifts. And for larger items such as home and car repairs, we place the money in a savings account. If you use a savings account, a good idea is to use a spreadsheet to keep track of each dollar so you know where the sinking funds should be allocated.

 

Our Family’s Experiences with Using Sinking Funds

Our family tries to plan ahead for upcoming expenses, and we regularly discuss what items we need to save for. For instance, in December our family has two birthdays and Christmas all within eleven days of each other. To take away the financial stress in December, around March or April we calculate how much money we need to set aside for December, then we break it down per month and place money aside in a sinking fund. Now when the holidays come around, we aren’t stressed about purchasing both birthday and Christmas gifts on top of our regular monthly bills and expenses. And we don’t have the burden of needing to pay off a credit card debt come January.

Another example is we create a sinking fund for our family vacations. Any time we decide to go on a vacation, we figure out how much it will cost and when we would like to go on the vacation. We then break it down to how much we need to save each month in order to reach our goal. For instance, our family was able to go to Disneyland last year. A few years before we went, we researched about how much it would cost our family ($2,500), we decided when we wanted to go on the trip (within 2 years), and then determined that we needed to set aside about $100 every month for the next two years in order to save enough money to go to Disneyland. It felt so great to pay for our vacation in cash! You can read the post and get more details of How to Vacation at Disneyland on a Budget.

Before we had our third child, we knew that we would need a new vehicle that would easily hold three car seats in the back. We set a budget of how much we could afford for a vehicle, then researched the types of cars we wanted, and set up a sinking fund for it. We saved for years and constantly watched for good deals on vehicles. Finally, when we had enough money saved, we were able to purchase our vehicle with cash, and we knew it was a good deal because we had been watching for deals on vehicles for more than a year. Head over and read 5 Tips How to Buy a Car + How We Paid Cash for a New-to-Us Car. It felt wonderful to not have a car payment each month and to not be in debt.

These are just some examples of how our family has utilized sinking funds.

 

Why is It Important to Have Sinking Funds?

Having money set aside for those expected expenses takes stress off you and your family, and it creates a peace of mind and security. It feels great to know you have enough money to pay for the expense rather than needing to use credit cards to pay for it. If you use credit cards to pay for these expenses, then you may end up paying interest on it, and you end up paying more for it than if you had planned ahead. And having debt can be a burden and be stressful.

I encourage you to start with a plan, develop self control and patience with your spending habits and create sinking funds to develop that financial peace of mind and security.

Have you started using sinking funds? What sinking funds do you have? And what experiences have you had by using sinking funds?

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