What are sinking funds?

1. Sinking funds for non-monthly bills

There are certain bills that we know come once a year or once a quarter. Some examples are car taxes and certain insurance plans (my auto is on a bi-annual schedule and my life insurance is on a quarterly schedule). There are also memberships and subscriptions that may be on an annual plan like Amazon Prime or yearly dues for an organization or license.  Look at all of your non-monthly bills and decide whether you can cover the whole cost in your monthly budget or if you need to set aside a portion of the bill each month.

2. Sinking funds for large purchases

Let’s be honest, a lot of people (including me up until recently) make large purchases on a credit card and then pay it off monthly. Trust me, I get it and I’ve done it! But if you want to break the cycle of having debt in your life, you’ll need to switch tactics. Instead of purchasing the item you want and then paying it off, start paying it off ahead of time by using sinking funds. Let’s take the example of a new-to-you car. If your budget is $20,000 and you wanted to use debt, you would go to a dealer and sign up for a car loan. Your monthly payment would be around $400 and you would end up paying $3,000 or more in interest over the course of the loan. If you reversed it and put the same money aside in a sinking fund in preparation for the new car, you’d save the amount needed in less time (a year or more less) than it would have taken you to make the payments to pay it off. That money also stays yours until you actually buy the car so you could change your mind and decide to do something different with the money if things changed.  

3. Sinking funds for non-routine expenses

Speaking of cars- they tend to need maintenance and may break down every once in a while. They will need new oil, new wipers, new tires and new brakes. If you are a homeowner, you know that things always seem to come up that need to be repaired or replaced. If you are a pet owner, you know they need to go to the vet and may need emergency medical attention from time to time. Since these expenses are foreseeable but not routine they are perfect for a sinking fund. Some other examples are medical/dental expenses (if you don’t have a Health Savings Account) and non-monthly kid expenses. Oh, and don’t forget CHRISTMAS!

So, I know I sold you on the importance of sinking funds with my excellent arguments and logic. But you may be asking “how do you actually put the money aside?”. I recommend opening a high yield savings account separate from your regular checking account. Look at Ally or Capital One if you don’t know where to start. They both have 4+% interest right now in their high yield savings account options. Once you open up the account, start putting the amount you need aside and make sure to keep some type of record of the money you’re putting in. It could be on a spreadsheet or a pad of paper or whatever works for you. The most important thing is that each dollar that you put in there has a name. For example, if you put $400 in this month, you know $200 was for Christmas, $50 for non-monthly bills, $50 for car maintenance and $100 for home maintenance. When you plan ahead for larger bills, purchases and expenses you take control of your money, the stress out of large purchases, and avoid creating new debt.