I get a lot of questions on what sinking funds are and why we need them. This blog post will explain just that. The best analogy that I can think of is that a sinking fund is similar to saving for a rainy day and lay away all in one. Sinking funds is setting money aside every month or each paycheck to pay for things you know are coming up in the near future. It's a way to be prepared for expenses that you know are coming. For example Christmas and Birthdays, we know these happen every year and yet we find our selves scrambling around on the last minute shopping for gifts and charging them to a credit card as if it took us by surprise . This post is to show you how to avoid that from now on.
Keep in mind every house hold is different and only you will know what you need to save for but here is a list of common items people save up for: Gifts and Birthdays, Car Maintenance and Registrations, Vacations, Annual Fees & Subscriptions, Medical Co Payments, Clothing, Insurance, and lastly Home Repairs. Now that you have a general idea of what you may have to save up for, the next step is to determine how much each category is going to be. An easy way of finding this is looking at your past credit card statements, bank records or simply calling and getting a estimated quote for certain categories. This should take you a couple hours depending on the amount of time it takes you to research.
Now once you have the amounts it is time to determine when you want or may need these amounts. For example the Car insurance is due every 6 months, but Christmas is not due till December, your Amazon Prime might be due in July and so on. Write these dates down as you will need them in the next step.
Alright and here comes the final part to this and that's the math :) Once you have determined the amounts you need and the amount of time each category is due you will now divide this by months or by paychecks. It's up to you but for me setting aside the money monthly is easier to manage than it is to do it biweekly. I will run two scenarios with you so that you get an idea of how it works.
Let's say you have a vacation planned in September and you start the sinking funds on Jan 1, 2018. You essentially have 9 months to save up for this money, and lets say your budget is $2,000. You would take $2,000/9 months and that's $222.22 that you need to take out of your budget every month to have that money by the due date or $111.11 every 2 weeks which ever works for you.
Now let's do a gifts and birthday scenario. Suppose you made your annual list of 20 friends and relatives that you plan on giving gifts to at a $25 limit for each. That will be a total of $500, you then do the same thing, divide the amount by how ever long you need it and that's how much you have to set aside every month for it.
I hope this quick post was able to explain what sinking funds are and why they're important but if you have any questions please feel free to comment below.
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