Quite a bit of credit card debt in the United States is probably from people who didn’t have a good “money” plan in place. Lots of “emergencies” that really aren’t emergencies are charged to credit cards. Of course, that’s my opinion, but when you plan ahead, you really can save your sanity and save some money (no finance charges)! It’s stressful having to come up with a big chunk of money all at once. This where the idea of sinking funds comes into play. Sinking funds will help you plan ahead for “unexpected” expenses!
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The basic concept of a sinking fund is that you save up money, over time, for something in particular. It can be an annual bill, a vacation, a gift, anything! It’s more specific than just having a general “savings” account. Sinking funds are a great way to plan ahead and avoid surprises in your budget!
How Does A Sinking Fund Work?
Dave Ramsey always likes to give the example of Christmas. You know Christmas comes. every. year, you know when it’s coming. Yet, come November people are panicked about Christmas. Like they just realized it’s next month and how will they pay for presents. Christmas isn’t a surprise or an emergency. It’s something you can plan head for. In January or whenever, start setting aside some money for Christmas (like the old-fashioned Christmas Clubs). A little bit saved ahead is better than nothing saved so don’t let the fact that you feel you need to save $100 a month stop you from saving $10 a month!
Here’s another example…Let’s say you have property taxes for the house approaching in 6 months. You can start a sinking fund by finding out the total amount of money you need and dividing that by 6 months. Each month you put a certain amount of money into the sinking fund. The idea is that when the time comes to pay your property taxes, you have all of the cash you need in hand to pay for it. Or maybe the tires on your car are old and you know that down the road you’re going to have to replace them. Start a sinking fund for them! Perhaps your kids go to summer camp every year – start a sinking fund for that. The more time you give yourself to save for something, the easier it is on your budget. So plan ahead as much as you can!
Sinking Fund vs Emergency Fund
An Emergency Fund (if you follow Dave Ramsey) is money in a savings account for the unknown, unexpected things that happen in life. True emergencies! He recommends $1000.
A sinking fund is for things you know are going to happen so you plan ahead and set aside the money.
Examples of sinking funds:
Cars are going to need repair! They are going to need tune-ups, inspections, oil changes and eventually new tires. These are all things that you can save for a little at a time.
Putting a sinking fun together for your own kids’ birthdays and their friends is a way to feel on top of your situation when a birthday gift needs to be purchased.
Kids always need clothing, there’s no doubt about that. Putting a sinking fun in place for kids clothing is one way to ensure your kids always have clothing and you never go broke. Of course, spending that money wisely is one way to continue to save money, even after you have the cash.
Self Employment Taxes
Taxes of any sort can sneak up on you without any warning. If you’re self- employed, putting money back each week for taxes is one way to avoid a surprise when tax time hits.
Although the majority of Americans own their homes, not everyone can afford the repairs that go into keeping their homes up to date. A home repair sinking fund is a smart move for any home owner. Eventually you will need a new roof and appliances don’t last forever (these days).
Where To Keep Your Sinking Funds
1. The Envelope System
You can use the envelope system of budgeting if you’re comfortable with having cash in your home. In which case you would have a envelope for gifts, car repair, home repair etc and when you get paid you would take out the appropriate amount of money in cash to fund the envelopes. So if you’ve determined that you want $100 in your budget to go to gift giving, you would put a little money in your gift envelope each time. Putting this money away each week is a smart move for those who want to plan for how they will use their money.
There are some banks and credit unions that will let you set up as many savings accounts as you want at no extra charge (we use Capital One 360 formerly ING). Or you can just use one saving account but in your written budget divide that money into categories.
This is a web based financial software. You have to pay to use this online digital envelope system. But it’s great for people that feel uncomfortable carry real envelopes with cash.
Planning ahead can help you save money in so many ways. When you don’t plan ahead you are forced to use credit cards, which will only cost you more money over time. Sinking funds are a great way to plan and to save money!
Do using sinking funds? What are some of your categories?
You may also be interested in: The Envelope System: How It Works