Budgets. Hardly anyone like them, but they are necessary in order to get your finances under control. However, they have a problem. They are great for tracking regular monthly expenses, but what happens when you have a bill that occurs quarterly or annually? Usually a mad scramble to gather as much cash to pay it. But what if you didn’t have to look under couch cushions to pay your renter’s insurance? Sinking funds are the answer.
But what are sinking funds? Basically they are separate savings accounts earmarked for a particular purpose. They are useful for what I call regular irregular expenses and irregular irregular expenses.
- Regular irregular expenses: expenses that you know are coming, but don’t happen on a monthly basis. Examples include summer camp fees, taxes you pay quarterly, and of course the holidays, such as Christmas.
- Irregular irregular expenses: inevitable expenses that don’t happen on a schedule. If you own a car, it eventually will need a repair. Clothes wear out. One month you’ll have two baby showers and your best friend’s birthday, the next month is as quiet as a church pew on Saturday night.
Here are some examples of my sinking funds:
- Christmas – includes what we’ll spend on presents, tree and other decorations
- Clothing – it use to be a regular category in our budget, but there was too much fluctuation. One month we would spend nothing. The next, a new pair of socks. The following month, my husband needed a new suit.
- Gifts – non-Christmas gifts. Think birthdays, baby and wedding showers.
- Missions – we give an annual missions contribution through our church, so we set aside an amount monthly for this purpose.
- Renters Insurance – it’s cheaper to pay it annually, so we set aside a certain amount each month in this account.
- Vacation – in addition to our annual vacation we set aside money for any church retreats.
Sounds great? How do I set it up?
I suggest an online bank such as Capital One or Ally which allow multiple savings accounts and have a higher interest rates than your local brick and mortar bank. An online bank also helps keeps the temptation to impulse spend at bay since it takes about two business days to transfer money to your checking account.
Next, determine your categories. Look at your bank and credit card statements over the past year for any irregular expenses that would be well served by a sinking fund. While you’re looking at your statements calculate how much you spend over the last year. Let’s say you spent $600 on clothing last year. That means you can set aside $50 a month your clothing sinking fund.
Cool. So how does it work?
Let’s say it’s January. You have $50 automatically deposited in your Clothing Sinking Fund. You make no clothing purchases that month so your balance at the end of the month is $50. In February another $50 is added to your fund, but you needed new socks costing $10. At the end of the month you move $10 from your sinking fund to your checking account to reimburse yourself. You have $90 left in your account.
Do you use sinking funds? If so, what other categories do you have. Leave a comment below.