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Understanding sinking funds is essential to accurate budgeting (unless your income is such that you choose to cash flow big ticket items). A sinking fund is a category in your budget that adds up from month to month and only occasionally gets spent out of.
Sinking Fund Example #1: Car Insurance
Most car insurance policies renew every 6 months. Let’s say your 6 month policy costs $420
$420 / 6 months = $70 per month
You need to budget $70 per month for car insurance. Every month, you add $70 to this sinking fund. Then, when the renewal date rolls around, you have the $420 to pay, stress free. We use Geico and our policy wasn’t going to be discounted for paying 6 months at a time, so we just pay our car insurance monthly. If you’re currently paying every 6 months, you might want to ask if you can switch to paying monthly without a rate increase. Otherwise, you might want to switch to Geico. Have you heard that 15 minutes could save you 15% or more on car insurance? Haha, but seriously. I saved 53%. Guess I was overpaying before Geico…
Sinking Fund Example #2: Water Bill
When we lived in Lincoln, we paid the water bill every other month on an auto draft from our checking account. After about 6 months, we had a pretty good idea that the bill was usually around $30-ish, depending on the time of year. So, what amount would that be in your “water bill sinking fund?”
If you answered $15, you are correct. This sinking fund gets emptied more frequently than car insurance, but it’s still a sinking fund because it’s rolling over from month to month and adding up.
Anything that you have to pay regularly, but not monthly, can be turned into a sinking fund, even if it’s a small amount.
Sinking Fund Example #3: Christmas
I have a secret – this year, Christmas will be on December 25. 😉 Okay, but seriously, the National Retail Federation estimates that approximately 36% of purchases are financed around the holidays (source). Think about how many people you interact with around November and December who are stressed about the amount of money they spend around Christmas time… it begs the question, why? Why is Christmas so stressful for people? I would suggest that one of the biggest reasons is lack of financial planning for Christmas spending. I have another post about Christmas spending and saving coming soon that will go more in-depth about all this, but for now, let’s stick to the basic principal of a Christmas sinking fund.
You’ll probably want a full Christmas sinking fund by December 1 so you can do your shopping. If you go black Friday shopping, you need all your Christmas spending money by mid-November.
So, write down all the people you buy Christmas gifts for and how much you think you spend. Then add some money to that number because, unless you’ve been tracking spending, you probably spend more than you think. 🙂 Another way to do this is to find the statement or bank transactions from last December and use that total as your number. Either way, I suggest adding a little extra $$ to how much you think you spend on Christmas. It’s more fun to have money leftover than to not have enough. Include any charity giving you do at this time too. If you go to a lot of holiday parties that have expenses associated with them, add that too!
Say your total is $1200. You would divide that by 12 and save up $100/ month from January to December. This category is only for Christmas-related gifts and expenses, so there is NO spending out of this category unless it’s for Christmas.
If you have not been doing this yet this year, 2015, then you only have 3 months to save because it’s already September. So make sure you divide your total gift spending by 3 this year and then you can start over in January of 2016 and divide your total by 11 or 12.
I 100% guarantee that if you save up for Christmas in advance, you will have more fun shopping and giving those gifts (or your money back… haha jk).
Sinking Fund Example #4: House Projects
Young House Love was/is one of my favorite home renovation blogs. (Were they the first DIY bloggers? I don’t know…) But they wrote a GREAT post about saving up and paying cash for home projects. If you spend money on your house at all, that post is worth a read. Not to mention, their entire blog could take you through just about any DIY project. I refer to it for projects all the time. I also refer to it when I just want to see pretty before and after pictures 🙂
Anyway, if you know you want a new kitchen and you think it’s going to cost you $30,000, then start saving! If you want it done in 2 years, you have 24 months to save up 30k. That’s $1250/ month set aside.
If you have a smaller project to tackle, such as redecorating a bedroom, think about it in advance… What do I want to change? Where do I want to buy the new items? How much will they be likely to cost at that store? Personally, before I redecorate anything, I usually make a little mini “design board” of ideas in google drawings. Here were some of my ideas for Addie’s new room design.
I list the items and look up the prices online. This isn’t a contract telling me exactly what I have to buy or spend, but it gives me an idea of the cost. For this room, I decided to wait on the confetti decal and ‘big girl bed’ bedding. Making a simple design board helps you prioritize spending and visualize what you’re going to buy.
Say you want to tackle a bedroom makeover, and a new rug, bedding, window treatments and nightstand is going to cost you $500. Depending on your other financial goals and how much wiggle room you have in your budget, you might decide to spend that money based on a time frame. If you’d like to redecorate within 3 months, set aside about $175 a month, and in 3 months, you’ll have $525 to spend on it. THEN, you can start shopping.
Or maybe you are more like me… We have no decorating budget in our household budget because we are intensely paying down student loan debt and decorating certainly doesn’t count as a necessity. But, we each have a small amount of spending money each month that covers anything extra not in our monthly basic necessities budget. Our spending money also covers things like clothes, shoes, lunches out with friends, etc… Because I like decorating, I usually set aside some of my own spending money each month towards fun things I’m saving for (new curtains or creating a frame gallery wall, or whatever…) Once the amount I’m saving for is in the fund, I’m free to spend it & not feel guilty.
Sinking Fund Example #5: Transportation Costs
It costs money to own a car, and some car-related expenses should be anticipated and planned for. Your car being totaled is an emergency. Oil changes and new tires aren’t an emergency. You should have an emergency fund in place to cover emergencies, but a Car Maintenance or Transportation fund should cover the known expenses of owning a car.
List everything you might need to do to maintain your car this year.
1. Oil changes (we plan for 4 per car per year at $25/each)
2. New windshield wipers (we buy high quality ones at Auto Parts store and Ben replaces them himself. We do this about once a year per car for $50/set)
3. Car Wash (I do it every couple months at a place near us that costs about $8 for a decent wash with a coupon, then I vacuum it myself with their free vacuums)
4. New Tires Every Few Years (we budget $200/ year for this and buy good quality tires that last longer and are safer in snow/ice)
5. Old Car Stuff. The right control arm in our 2004 Saturn has had to be fixed a couple times in the past couple years. It seems to be “glitchy” but the rest of the car is fine and we don’t want to replace the car while we’re getting out of debt. So we just budget the $350 repair to happen once a year. Then when it comes up, it’s not as irritating as it was the first time because we’ve already budgeted for it. Don’t get me wrong – it’s not fun to shell out the repair money. But it’s not as stressful either since we figured it was coming. Plus, if it never has to be fixed again then we just have extra money towards our next car. You really can’t go wrong saving for car repairs. ESPECIALLY if you drive 10+ year old cars.
Our two cars combined are worth a total of $4,000 AT THE MOST. #momsdrivingbeatersunite
6. License plate renewal. You have to get it renewed every year. Might as well plan ahead. We budget $300 for our two cars.
7. Gas & Parking.
8. Public transportation passes would be included here, I think. Or you could have them in a separate category.
(Side note- we put car insurance in a different category with our other insurance costs.)
Say the above costs total $3600/ year, then you are setting aside $300/ month into a transportation fund. When you get the oil changed or car washed, or replace the tires, it comes out of this fund. Paying to fix your car is never fun, per-say. But, once you have a car maintenance sinking fund in place, fixing the car will feel so much less annoying. Give it a try and let me know if I’m wrong. Budgeting in advance for car known car expenses was so freeing for us. Now, the only thing I don’t like about car repairs is waiting in the smelly waiting room with my 1 and 2 year old drinking bad coffee, watching daytime television, and cleaning up diarrhea explosions. (Seriously, Emma has had a blowout diaper every time I’ve gone to our mechanic since we moved to Omaha a year ago. They love us there.)
We estimated our car expenses in a google sheet (or spreadsheet) and then track them in our budget throughout the year. If we come up short, we reevaluate and add more money to the category if necessary. You can view or download our car planning sheet here (free, of course!)
Other sinking funds you might have are:
- Gifts (wedding, birthday, non-Christmas holidays)
- Saving up cash for a new car
- Travel to see out of town family
However you specifically go about planning and saving, the concept of a sinking fund is this:
- I know this thing is coming up
- I think it will cost about this much.
- I have X number of months to save for it.
- The total cost divided by the time to get there is the amount you need to be setting aside in your monthly budget.
- Put that money somewhere where you won’t touch it. I recommend Capital One 360. You can set up short-term savings funds for free there! We have a few 🙂
Do you already plan for sinking funds in your budget? What are some sinking funds I missed? How do you save for short-term goals?
If this was helpful to you, please feel free to share it with anyone else you think will benefit from it!
9 thoughts on “Budgeting 101 #4: What the heck is a Sinking Fund?”
I’ve been doing this since the start of last year without knowing what it was called. I agree it is an amazing way to run your personal finances. When you do get those planned bills, you can just pay them off like you habd over play money in a board game.
Yes! Not much but better than a regular bank savings account. It’s not an investment strategy for sure. Just a convenient place to park money you want accessible. We use it for setting aside self employment taxes, short term savings like down payment or new car – any savings you don’t want to be at risk 🙂
Do you earn interest using capital one 360
We also have one for our health insurance deductible.
KJ – good to know!
Just an FYI for you – GEICO charges an additional $5 per month if you’re on any plan other than paying the 6-month policy in one go. For instance, I’m on the 4-month (out of 6) plan and for each of those 4 months, I pay an additional $5.
Yep – you summed it up! Expenses that don’t occur each month. I don’t know where I first heard the term, now that I think about it. We’ve used it for a while! I wonder who coined it 🙂
I’ve never heard this referred to as a “sinking fund,” but I’m familiar with the concept. My husband and I do set aside money each month for our auto insurance and for car maintenance expenses. This works really well for expenses that don’t occur each month.
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