How Sinking Funds Will Save Your Budget
When I first became financially independent after college, I did not save up for anything. I would either just not buy things I wanted…or worse—I would put it on credit with the intention of paying it off. I just didn’t understand how to handle money, and I developed bad habits that it would take years to break.
Without sinking funds, I would see things I wanted and not get them because I didn’t have the money in my account. OR if I gave into temptation, it came with the risk that always comes with putting a purchase on credit.
This fly-by-the-seat-of-your-pants finance method is stressful. Wouldn’t it be nice to have a budget that has big purchases built in?
We have since overhauled our family’s finances and switched to using a zero-sum budget with sinking funds included in the budget. We can now afford for me to be a stay-at-home mom just because we started using a budget that works!
So what exactly is a sinking fund anyway?
A sinking fund is finance speak for saving up for something over a period of time. For example, if you want to buy a new living room set that costs $1,000, you set aside money in your budget every month to put in this fund until you reach that $1,000. Then you go out and buy it.
Sinking funds are powerful ways to get control of your expenditures while still being able to buy things that are important to you.
We have multiple sinking funds—and you should, too! Anything that you want to save up for, write it down and intentionally include it in your budget.
Just to give you an idea, we currently have a sinking fund for our property taxes, a fence for our backyard, and a trip to Walt Disney World (read this post for more about our financial planning for the trip).
Sure, one of our funds is for taxes, but the other two funds are for fun things! We can’t wait to enjoy time together as a family in a fenced-in backyard where our pug can run around without getting into too much trouble. And of course, our first trip to Disney as a family will be magical.
Saving up for big purchases with sinking funds is a personal finance hack that everyone should be using! Here are a few great reasons why:
Sinking funds prevent you from using your emergency savings or putting purchases on a credit card.
When you plan to spend money on something and save up over months and months, there is no reason for that purchase to become a splurge that takes funds from your emergency savings.
You already have the money!
Plus, emergency savings are for an emergency, not an impulsive vacation or purchase. Using sinking funds will protect your emergency savings from yourself.
When you decide to make a major purchase without saving up first, you will either have to use your hard-earned savings or a credit card. Using a credit card in this way is essentially spending money you don’t have. If you could pay off the full balance of the card, and therefore not pay crippling interest, you wouldn’t need to use the credit card in the first place.
Instead of swiping plastic, use a sinking fund to save up. This way, you won’t have to make payments, pay interest, or get yourself in over your head.
A sinking fund forces you to plan ahead and really focus on what you want.
Most of us won’t be able to have a million savings funds to save up for every little whim and desire. If you have limited income (and who doesn’t?), including sinking funds in your budget will force you to decide what is most important.
We couldn’t save up for a trip to Disney and a trip to Europe because dividing the contribution between two vacation funds means that it would take forever to save up enough for both trips. So we chose to save up for only Disney, and we will be able to cash out the Disney sinking fund and go on our trip in a few years.
Using a sinking fund allows you to plan on when you will have enough money to make that big purchase. We know that we are on track to go to Disney in 2018 because we divided our monthly contributions to the fund accordingly. On the flip side, we have to pay taxes twice a year, so we simply determined the amount to contribute to that fund by dividing the total amount we expect to pay by 6 months.
Using a sinking fund, you know exactly when you will be able to make that big purchase, so you can plan accordingly.
Sinking funds put you back in control.
There are a few unexpected expenses that happen from time to time. But never again should an expected expense catch you off guard.
For example, Christmas is on the same day each and every year (shocking, I know). I know I will need to buy presents, extra groceries for family celebrations, and a few little decor items. Without using a sinking fund, these expected expenses can quickly turn into credit card debt that I could have seen coming a mile away.
With a Christmas sinking fund in place, I am in complete control of my holiday spending. I have already put money away for months, I have established a set budget, and now I can enjoy shopping for my loved ones without guilt, debt, or using my emergency savings.
That is what control looks like. And it feels pretty darn good.