Do you have big purchase in mind for the future but do not know how you will afford to pay for it?
An easy solution for you may be to start saving by creating a sinking fund.
With a sinking fund, you simply set aside a small amount for a certain amount of time until you have what you need to make the purchase. To do this, you may take the total amount divided by the number of months until you need to pay.
For example, if you figure you need $500 to buy Christmas presents for your family, you can start saving $50 every month starting in February or $100 every month starting in July. If you know you need to buy a newer model of your current laptop or other device in the future, you can create a sinking fund so you set aside a small amount until you reach the cost of the device. Or say you want to visit relatives or friends who live far away - you can create a sinking fund so you set aside money for the airfare and travel/lodging expenses.
Here is a list of possible reasons for a sinking fund:
Your friend’s birthday is in 4 months and you want to spend $100 on the gift. You put $25 away each month.
You plan to spend $10,000 on your next car in five years, so you put $167 away each month.
You found cheap tickets for a trip to Europe in eight months and figure you will spend an additional $3,000 on the trip. You save $375 every month.
You pay $600 for auto insurance semi-annually, so you save $100 each month until you pay it again.
As you may have noticed, you may use a sinking fund for expenses that fall under both “needs” and “wants.” The purpose of a sinking fund is to give you control over your spending and train you to think about your finances in the long-term. Where you decide to keep your sinking funds is up to you - you may choose to keep it in a savings account for bigger amounts, or as cash in an envelope for much smaller amounts.
It is important to note that a sinking fund is not an emergency fund. An emergency fund is separate and is solely for unexpected expenses - a hospital trip, a car accident, a new stove, etc. That fund should be at least equivalent to 6 months of living expenses (suppose you spend $2,000 each month, that would mean you keep $12,000 in your emergency fund). A sinking fund is for expected expenses, the “known.” An emergency fund is for the unknown.
If you would like advice on how to create your own sinking fund, please contact us at firstname.lastname@example.org or call us at 515-557-1860. TABER Asset Management is a Des Moines based investment management and financial planning firm serving clients across the United States.