Sinking funds - only something I had started using approximately 18 months ago when I had signed up to Monzo and was able to set up pots. Sinking funds are a great way to save up for any large expense. It's definitely something I'm glad that I started doing as spreading the cost has made things a lot easier than trying to find money in one go.
If you are wanting to get started with sinking funds and have no idea where to start than this guide for beginners is for you. I'll be explaining all the basics including what a sinking fund is, benefits of them as well as how to create one.
What is a sinking fund?
A sinking fund is a way of saving money by putting away a set amount each month for the purpose of being used at a later date. It means you are saving small amounts over a set period of time instead of needing to find money all in one go. This is a great idea for those things that you know are coming up and won't be able to afford from one month's income and also saves you having to go into debt.
You can set up a sinking fund for any financial goal you may have. I have four different sinking fund categories at the moment although this may change - mine are:
- Summer Holiday
- Back to school
- B's Birthday
- Christmas
Sinking fund/savings /emergency fund
A sinking fund is a way of saving but should be separate from your savings and emergency fund. A savings account is where your savings go and sinking funds are how you save your money.
Sinking funds are also different from an emergency fund. A sinking fund is for those expenses you know are coming and can plan ahead for - such as for your home insurance, back to school, Birthdays, Christmas or even for things such as saving for a new sofa. An emergency fund, on the other hand, is for unexpected expenses. Examples include: damage to home like needing a new roof, car repairs from an accident, medical emergencies etc.
Benefits of sinking funds
Everyone can benefit with having sinking funds. Saving for the school summer holidays, need new glasses or a new sofa, no problem. Sinking funds mean you won't need to use your credit card where you end up paying for months instead you have saved up and can use cash for these purchases.
How to create your sinking funds
Now you know more about sinking funds it's time to start creating them. Personally I think that more than six sinking funds would be too much to juggle, so bear that in mind.
1. Decide what you are saving up for
Having goals in mind will help you to mange your sinking funds properly. Things to consider are:
How much you need, when do you need/want it by and make sure you automate your payments.
2. Decide where you are going to store your sinking fund
As I mentioned at the beginning of this post I use Monzo for mine as I can divide my sinking funds into different pots. I've heard that Hyperjar is another option for managing sinking funds although I've not used this myself. Another option is to open a new savings account just for sinking funds.
3. Calculate how much you need to save
When creating your sinking fund/s you will need to decide how much you need to save. Once you have worked out how much you need, divide this by the number of months you have left to save. Then you will know how much you need to budget for each month. For example if you want to save £500 for Christmas and have 10 months to do so than you divide £500 by 10 which works out as £50 a month to put aside.
4. Include your sinking funds in your budget
Sinking funds only work if you budget for them. Include your sinking fund categories when planning your monthly expenses and allocate an amount you can afford.
5. Monitor your sinking funds regularly
Monitoring your sinking funds regularly means you can adjust payments as needed especially if your financial circumstances change.
