Beginner’s Guide to Sinking Funds
Sometimes unexpected expenses happen, but sometimes they’re completely expected and we still aren’t prepared for them. Huh? Why aren’t we prepared if we know they are going to happen? This is why I think understanding a sinking fund is so incredibly important.
In today’s post, I’m going to teach you all about sinking funds, what they are, how to use them, and show you a couple examples of sinking funds you should implement in your life! You ready? Let’s get started.
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What is a Sinking Fund?
A sinking fund is essentially a pile of money that you collect with a specific purpose in mind. This money has one use and one use only.
It’s a great way to save for a specific event that you know you’re going to have either every year (i.e., property taxes) or a one time expense that is definitely going to happen (i.e., car repairs). Sinking funds allow a person or a family to put a certain amount of money away every month to save up for a specific expense.
Examples of Sinking Funds
- Car Repairs
- Pet Vet Visits
- Car Registration
- Home Repairs
- Property Taxes
- Home Remodels
- New Cars
Setting up Sinking Funds
The first thing you need to decide when you first set up a sinking fund is where you want the money to be! It’s super important to make sure that the sinking fund is pretty liquid (this means you have relatively easy access to the money, without penalty). Sinking funds aren’t the kind of thing you want in stocks because you NEED this money and you can’t afford to lose it.
If the sinking fund is for an expense that may happen at any time (i.e., car repairs) you should probably set up a second savings account specifically for it because you have easy access to that money at any time without having to wait a designated amount of time.
The key to setting up sinking funds is to have a good budget already in place. If you’ve never thought of budgeting before, you should definitely read more into the Zero-Based Budget, it’s a super easy budgeting tool that anyone can use! A good budget allows you to give your money a plan and a sinking fund gives your money a goal! To allow yourself to fund your sinking fund you’ll just add a line item to your monthly budget!
How much money do I need in a Sinking Fund?
How much money you need in a sinking fund depends on how much money you know you’ll need after a certain period! Are you saving for a newer car?
Well, if the car is going to cost you $10,000 and you want to get it in 2 years, this means you’ll need $417 a month for 24 months! If your yearly car repair expenses are usually about $1000 you may want to put a little extra aside just in case. In that situation you’ll possibly want to put away $100 a month, so you’ll have $1200 a year leaving you with a small buffer!
Sinking Funds in Action!
Since it’s the Christmas season, let’s do a more in-depth example of a Christmas sinking fund.
Let’s say Catherine Avery is a 35-year-old single mother of two. She makes around $42,000 a year and typically spends around $500 on her two kids for Christmas, and $250 on other family members. She’s very much against using credit to pay for Christmas and knows she only does holidays debt free.
In order to have the $750 saved by December, she must have $62.50 put away each month! Having a sinking fund is going to help Catherine have so much less stress when Christmas rolls around!