When your washing machine goes awry and needs replacing, or in my situation where my furnace is nearing its expiration and requires an upgrade soon – which can cost anything from $600 to $2,000, how do you manage such unforeseen, yet inevitable costs? Instead of resorting to credit cards or borrowing from others, consider establishing “sinking funds” to amass funds to cater to those expenses.
WHAT ARE SINKING FUNDS?
Sinking funds are reserves formed by putting away money from time to time earmarked for settling debts gradually or eventual replacement of depreciating assets. In essence, you can create multiple sinking funds, with each serving as a dedicated savings pot for a premeditated expense.
Commonly, sinking funds are mistaken for emergency funds or people have the misperception that only one emergency savings account is adequate. Here, I’ll shed light on the reasons behind why you should rethink and integrate sinking funds into your financial plan.
DISTINGUISHING BETWEEN SINKING FUNDS AND EMERGENCY FUNDS
Sinking and emergency funds do not serve the same purpose; using both without distinction indicates a mismatch in financial planning. An emergency fund is designed to offer financial cushioning in the face of unexpected hardships or emergencies.
For instance, imagine facing a medical emergency that puts you off work for days or losing your job abruptly. These exemplify genuine emergencies demanding unanticipated expenses. Preparation for these unforeseen eventualities can’t be specific because they come unannounced. However, creating a financial nest egg to cater for any spontaneous expenses as they arise is doable.
Contrarily, sinking funds are monetary reserves for planned expenses. Though you’re aware of the impending expense, if not adequately prepared, it can still unsettle you and disrupt your budget.
Sinking funds are typically established for known expenses such as Christmas, new furnishings, a vehicle, birthdays, etc. When lacking such provisions, these expenditures can feel like emergencies because of the need for finances on the spot.
So, advocating for both an emergency fund and sinking funds makes financial sense so you’re equipped to meet all financial contingences.
BRACE YOURSELF FOR THE ANTICIPATED
Through sinking funds, you become better attuned to expected expenses. Let’s discuss this in more depth. Presumably, you may already have a budget or money management plan.
Your action plan for a sinking fund starts with recognition of the impending expense. Next, you estimate the needed amount and the timeline for gathering the required savings. To manage your budget effectively, you need a distinct savings category for the sinking fund and allocate funds to it monthly.
Timely preparedness alleviates hiccups such as incurring late fees or even forfeiting benefits like insurance. This also preserves your budget balance.
For instance, my husband and I have cars that need annual registration stickers, costing $100 each. Mine falls due in April and his in May. Without these stickers, we jeopardize ourselves to potential penalties. To avoid extra expenses ($200) upsetting our budget in the spring, we resorted to a sinking fund. Even though it means setting aside a tiny sum monthly for a year, this small gesture would reap dividends come our car registration renewal time.
By anticipating and preparing for future expenses, you can avoid drawbacks like late fees or benefit loss.
SKIP DEBT AND LOANS
Another compelling argument for incorporating sinking funds in your financial plan isn’t only avoiding debt but to steer clear of credit cards or loans masquerading as emergency or sinking funds. These only provide fleeting relief and compound your financial woes.
Consider this: resorting to credit cards or loans for an expense you can’t foot implies you’re financially stretched. Then how could you afford to repay, along with interest? Clearly, borrowing beyond your means only entrenches you deeper in financial turbulence.
Imagine the thrill of paying off Christmas or even a wedding in cash without any loans! Likewise, it is possible for us to manage our son’s birthday parties from cash on hand.
Having ready cash helps evade unwanted debts, thus fast-tracking your financial advancement.
YOU MIGHT ALREADY BE USING SINKING FUNDS
Honestly, sinking funds aren’t a novel idea. In fact, you may unknowingly be already relying on them in one way or another. Have you ever set aside money for an upcoming vacation? If so, this is a classical example of a sinking fund.
Recognizing the importance of preparedness for anticipated expenses, even if earmarked for leisure or fun activities, is the key takeaway. Maybe you have a concert lined up in a few weeks and are budgeting your paychecks accordingly.
Why not integrate these financial planning methods and create few key sinking funds earmarked for future expenses? You can design sinking funds for any foreseeable expenses that warrant prior savings.
I’ve developed sinking funds for:
– Christmas
– Birthdays
– House Maintenance
– Car Maintenance and New Car
– Car Registration
– Travel
Starting with 1-3 primary sinking fund categories is advisable so as not to overload yourself. Consider an online savings account allowing multiple linked accounts, all for free. I prefer CapitalOne 360, with its no-fee policy and the flexibility to open up to 25 distinct savings accounts named as per your preference.
Have you considered deploying sinking funds? Which benefits appeal to you most?
