What is a sinking fund? What are true expenses? Are they they same thing?
The gist of sinking funds and true expenses is that you set aside a fixed amount of money each month to prepare for larger known expected or unexpected expenses of a fixed or variable amount.
For instance, I know the car will eventually need repairs. It’s a known expense. How much will these repairs cost? I have no idea (hopefully very little). Known expense, variable amount.
I know that our life insurance premiums are due annually. It’s a known expense. How much will the premiums cost? We have term insurance, locked in for at least a decade, and it comes to $840 per year. Known expense, fixed amount.
Based on past experience, let’s say we spend $2,000 per year on car repairs. That means I need to be socking away $167 into my Car Repairs account (or YNAB category, but we’ll get there). For the life insurance premium, $70 per month means we’ll be able to pay for that premium easy-breezy.
How do you set up a sinking fund or account for your True Expenses? Some non-YNABers advocate setting up a separate checking account and then keeping a lot of separate “accounts” within that checking account for all of your Sinking Funds.
This can be a great setup, but depending on your bank, it may be a little complicated to get just right. The beauty of the YNAB system is that all of these accounts can be easily managed right in the Budget. If you set up a Car Repairs category, you just “sink” money into it every month and watch the balance rise.
In order to keep the number of physical accounts down at our household, I only use a separate account for our New Car Fund (I wish). All of the other accounts are small enough I don’t bother earning any interest. It’s your personal call though.
At the end of the day, implementation details aren’t the important part. What’s important is that you’re looking ahead and actively planning what your money is going to do and when. You’ll then find that all of those “emergencies” that used to knock you off your financial feet are now not a problem at all.