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What Is a Sinking Fund and How Do You Use It?

You have your budget, your emergency fund, and hopefully some type of retirement plan—like a 401(k), 403(b), or IRA—all established, so what is a sinking fund and why would you need one? A sinking fund is an intentional, strategic way to save money each month for a target amount and date. It allows you to save and then spend guilt-free, because you made it part of your financial plan!

What you can save for

Usually, a sinking fund is set up to help you save for a predetermined one-time, irregular, or annual expense. Having one or more sinking funds (yes, you can have more than one!) will help you avoid any guilt, worry, or regret that can be associated with large purchases.

Use a sinking fund to save and pay for:

  • Hosting special events like bridal/baby showers, birthdays, anniversaries, etc.
  • Upgrading part of your home
  • Buying new furniture or technology
  • Donating generously
  • Investing in your hobbies
  • Gift giving during holidays
  • School tuition
  • Vacation(s)
  • Tax or insurance bills

By creating and contributing to sinking funds for specific goals like these, you can avoid relying on credit cards or dipping into your emergency fund.

Where to put your sinking fund money

This all depends on you! You can keep tabs on your various sinking funds with a spreadsheet and keep the money in your checking account, or you can put it in a new or existing savings account. Most credit unions allow you to create sub accounts within one saving account so you can name each sinking fund and keep track of your progress.

How to save

Decide how much you need to save and then divide that amount by the number of months until you expect to make the purchase or pay the bill. This will give you how much to put aside each month so you can incorporate it into your budget.

Alternatively, you could figure out how much you can save each month (either by cutting expenses in other areas or earning more money) for the sinking fund and then calculate how many months it will take to reach your goal amount. This works best if want you’re saving for has a flexible date, like when to take a vacation or purchase a new mountain bike.

Let’s say you want to set up multiple sinking funds for several anticipated expenses. Your monthly saving plan (in addition to your retirement and emergency saving each month) might look like this:

$300 saved per month and divided into six sinking fund categories:

  • $100 for vacation
  • $100 for a new car
  • $50 for family reunion
  • $50 for home upgrades

In one year, your sinking fund totals would be:

  • $1,200 for vacation
  • $1,200 toward a new car
  • $600 for family reunion
  • $600 for home upgrades

One or more sinking funds could be the missing tool in your plan to spend and save intelligently and confidently.

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