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What is a Sinking Fund?

Money doesn’t come easy. We learn this truth when our first real paycheck falls far below our youthful expectations.

And what about managing money? That doesn’t come easy, either. We have to be purposeful and intentional if we hope to give, save and spend wisely.

One way to be intentional is to set up a sinking fund in your budget.

What Is a Sinking Fund?

New to the world of sinking funds? You’re not alone.

A sinking fund is simply a strategic way to save money by setting aside a little bit each month.

And with researchers reporting that the average American saves just 3.8% of the income they bring home each month, we can confidently assume a lot of people aren’t aware of the magic of the sinking fund.(1) But they should be! Here’s why:

If a budget offers permission to spend, a sinking fund offers encouragement to spend—and to spend big!

Why Do I Need a Sinking Fund?

As adults, we’ll hand over sums of money we never thought we’d see when we first started earning.

Want to take your family of four to the beach for a week? There goes $1,500. Need a new roof? That’ll be $6,000. Don’t even get us started on Christmas gifts, a down payment for your home, or that road bike your husband just has to have.

Expenses can be fun or not fun at all. But at the end of the day, no matter what you’re spending your money on, it all comes from the same place. And every swipe of your debit card can leave you and your bank account feeling depleted.

This all changes when you add sinking funds to your budgeting routine.

With a sinking fund you can: - Save for anything and everything under the sun. No, really! Get as specific as you like to make sure you cover every need and want on your list.

  • Plan for big, extravagant fun. Upgrade your kitchen, take the trip of your dreams, invest in your hobbies, or give generously. Make room for fun by telling your money what to do, month after month.

  • Lose any guilt associated with large purchases. Decide up front (or with your spouse, if you have one) what you’re saving for and how much money you’d like to set aside. When it comes time to spend, you can do so without worry or regret.

  • Expect those unexpected expenses. Life happens, right? We don’t often know when, what, or how things will fall apart—but we can pretty much bet they will. Saving over time for unexpected expenses (like new tires for the car and repairs for the house) will make those purchases less stressful.

Look at it like this: Strategic saving means fun purchases will actually be fun, and frustrating expenses will be no big deal.

How Do Sinking Funds Work?

Sinking funds work like this: Every month, you’ll save money across multiple categories to be used at a later date.

Why won’t a generic savings account do the trick?

You might be wondering what makes a sinking fund different from a typical savings account. Not much. But the difference found in that “not much” is exactly where the power of the sinking fund rests.

Let’s assume for a moment that you save $600 every month for a total of $7,200 per year.

At the end of 12 months, you and your spouse decide it’s time to replace your car. You’d like to pay cash, so you withdraw the $7,200 from your savings account and purchase a new-to-you car.

This feels good, right? And it should! The problem comes when you get a hankering to go on vacation, revamp your backyard, fix the bathroom plumbing, and pay those medical bills that keep piling up.

So, what do you do? Tap into your emergency savings? Pull out your supposed-to-be-shredded credit card? Stew in misery?

Can we offer an alternate reality? How about you go back in time and start those sinking funds?

Here’s what that same scenario would look like in the world of sinking funds:

$600 per month, divided into six sinking fund categories:

  • $100 for vacation

  • $300 for a new-to-you car

  • $50 for a backyard makeover

  • $50 for medical expenses

  • $50 for car repairs

  • $50 for home repairs

At the end of one year, your sinking fund totals equal:

  • $1,200 for vacation

  • $3,600 for a new-to-you car

  • $600 for a backyard makeover

  • $600 for medical expenses

  • $600 for car repairs

  • $600 for home repairs

When you and your spouse decide it’s time to replace your car, you have two choices. You can reduce the amount you’re willing to spend and look for reliable transportation for $3,600. Or you can make repairs to your current car and continue to save until your car sinking fund reaches $7,200.

Meanwhile, you’ll be able to take that vacation, make over your backyard, pay your medical bills, and be ready for any repair issues that pop up—all while leaving your emergency fund and your sanity completely untouched!

Did you catch the truly magical thing going on here? In both scenarios, the amount saved stays the same. It’s the strategy of sinking funds that changes everything!

How many sinking funds should I create?

You can save up for anything and everything, but most sinking funds fall into one of three categories:

  1. Large purchases like a new car or family vacation
  2. Overlooked expenses like yearly insurance bills or clothes for growing kids
  3. Unexpected events like needing to repair a roof or replace a laptop

By creating and contributing to sinking funds in each of these areas, you’ll avoid taking on new debt and won’t be tempted to touch your emergency fund for anything but true emergencies.

Where should I store my sinking fund?

You can save money for your sinking fund in a regular savings account or money market account with instant access and check-writing privileges. The total savings can be stored in one account as long as you keep track of how much money you allot to each category.

Which sounds like a pain, but guess what? We have the perfect solution for you: EveryDollar. You can track your sinking fund totals right in your EveryDollar budget!

How do I build a sinking fund into my EveryDollar budget?

It’s easy! On your desktop, create a budget line item for each of your sinking funds and select “Make this a Fund.” You can then enter your starting balance, the amount you plan to save each month, and your long-term savings goal.

As the months go by, EveryDollar will automatically load the amount you saved in each category and add it to your savings thus far. All you need to do is transfer the monthly amount into your savings account.

For more information, check out our step-by-step guide to creating a sinking fund in EveryDollar (complete with visuals!).

Now that you know the ins and outs of sinking funds, the big question is: What are you most excited to save for? Get moving on your goals today by building sinking funds into your EveryDollar budget!