You have probably heard all about emergency funds – but what about sinking funds?
More and more people across the UK are turning to sinking funds to help them budget more effectively and feel more in control of their finances, but how do they actually work?
It can be hard to keep up with all the newest personal finance trends and lingo, so to make things clearer, we spoke to Veronika Lovett, CEO at Kroo Bank, who has demystified this sinking funds concept. She explained exactly what this financial strategy entails, outlined its benefits and offered some advice about how to set them up.
What is a sinking fund?
“Sinking funds are all about planning for a when event, not an if event,” explains Lovett. “It’s a way to create a chunk of money for identifiable, expected bills to strategically and thoughtfully plan for things that you know are on the horizon.
“It’s about making sure that you can manage any upcoming bills and expected costs more effectively and not dip into quite expensive credit cards or rely on short term, high-cost funding solutions.”
What can you use them for?
“Some people have a pot of money for maintenance costs, such as home repairs, but I think it’s also very useful to have sinking funds for social life events such as weddings, trips away, Christmas etc,” recommends Lovett.
“In addition, if you’re a property owner and you’re under a leasehold arrangement, you could set them up for your annual payments that you know are coming up.”
What are the benefits?
“I think it can be a really great tool to help reduce economic anxiety for individuals,” says Lovett. “There’s quite a lot of uncertainty out there at the moment, and just getting yourself into a habit of putting aside small sums of money, in a way that it doesn’t feel like a significant outlay in that month, can help take away some of that anxiety and shock. It can also help you avoid a scenario where things are financially burdensome and difficult.”
Sinking fund pots are also flexible and can help give you a bit more freedom over your money.
“Sinking funds also be used for the short term, if you don’t want to feel like you’ve parted with your money and can’t access it,” says Lovett. “You can put that money in but can also take it out if your scenario changes, so you’re not locking your money away.”
Here are some tips on how to get started…
Utilise pot functions on online banking apps
“These online tools are a seamless and highly intuitive way of setting up your budget and goals,” says Lovett. “Set up as many or as few pots as you want and get insights on your app.
“I think it’s always very powerful when you can see exactly what your money is doing, how much you have and what you’ve allocated to different places at the touch of a button.”
Name each sinking fund
“Be specific and name these pots for specific goals,” advises Lovett. “Is it for a holiday? Are you saving up for Christmas? Are you looking to buy a car? Do you have an upcoming MOT bill?”
Plan ahead
“Think about how much you would you like to save for that specific event,” recommends Lovett. “If we think about Christmas, for example, most people have an idea of the types of presents that they want to buy or who they need to buy presents for.
“Sit down and estimate what the costs is going to be so you can work backwards and think about how money months it will take to accrue to that. It doesn’t have to be a specific number – it could be more of a proxy range.”
However, your target doesn’t necessarily have to cover the whole cost.
“The idea is to alleviate that cost, so you could plan to get to a position where you have a sinking fund that gives you 50% or 75% of that number, or allows you to chip away at that particular upcoming cost or bill,” says Lovett.
Put money into the pots consistently
“Consistency means different things for different people, so some people might like to do it on a monthly basis because their salary comes in on a monthly basis. However, people who are contracted might do it at a more regular basis,” says Lovett.
Check on your pots
“Get into a habit of consistently looking at your banking app to check how much money you have in each pot and how much money you have in your current account,” recommends Lovett. “By doing it in a pot fashion on one current account, it’s all in one place so you can get an overview quite quickly.
“It’s great when you can see how each pot is building up week on week and month on month.”
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