What Is a Sinking Fund? How To Calculate Yours and Plan Ahead

You've got your budget under control most of the time, but when life hits you with big-ticket items (like a summer vacation, new fridge or maybe property taxes coming due), a sinking fund can help.

Sinking funds help you cover big costs in a financially responsible way, without scrambling to make large lump sum payments or going into debt. The concept comes from the corporate world, but the strategy works just as well for personal finances.

What Is a Sinking Fund?

A sinking fund is defined as money you set aside for large expenses that don't fit neatly into your monthly budget. The key difference from a general savings strategy is that a sinking fund is specific and intentional—you know what the money is for and when you'll likely need it. Think of it as saving with a purpose.

In the corporate world, companies use sinking funds to pay down debt (like outstanding bonds), replace costly assets and demonstrate fiscal responsibility. On a personal level, the same approach helps you prepare for big-ticket expenses without blowing up your budget or relying heavily on credit.

How Does a Sinking Fund Work?

Say you know you'll need new tires next year. You could wait until the bill hits and swipe your credit card—or you could plan ahead. With a sinking fund, you figure out the cost and the timeline, then break it into manageable chunks so you can pay in cash when the time comes.

Calculating your sinking fund

For example, if you know the tires will cost $1,000 and you'll need them in 10 months, just divide $1,000 by 10. That's $100 a month. Set up an automatic transfer into your sinking fund each month and you won't even have to think about it—the money will be waiting for you when you need it.

As a bonus, if you park that cash in a high yield savings account, you earn interest along the way—so your money works for you while you prepare to spend it. Even if you're newer to saving, you can begin to think about creating a sinking fund for future needed purchases.

READ MORE: 8 Ways to Hit Your Savings Goals on an Entry-Level Salary

Benefits of Sinking Funds

We live in a buy-now, pay-later world. The result is often debt that can be hard to pay off. Debt can serve a purpose in a financial plan, but a sinking fund helps you skip it when it's not needed.

By saving with intention, you build discipline and avoid being blindsided by large expenses. Instead of scrambling for a lump sum or putting it on a credit card, you've already set aside what you need.

It's the same principle corporations use when they create sinking funds to repay bonds or replace costly assets—you're just applying it on a personal scale.

5 Steps To Set Up a Personal Sinking Fund

Setting up a sinking fund is as easy as setting up any savings account. Here are some steps to take:

1. Identify your goal. What are you saving toward? You can run multiple sinking funds at once—maybe one for next year's vacation and another for your annual car insurance premium.
2. Determine your time frame. Decide when you'll need the money and how long you have to save.
3. Calculate your contributions. Divide your goal by the number of months until the expense. For example, $2,400 spread over 12 months means saving $200 a month.
4. Choose your savings vehicle. Decide where you're going to put the money, such as in a high yield savings account or money market account. Consider setting up an automatic savings plan so the money moves there on schedule, like magic.
5. Track your progress. Start a spreadsheet, use an app or even just stick a piece of paper on your fridge so you can check off each deposit and see yourself getting closer to your goal.

READ MORE: Money Market vs. Savings Accounts: Which Is Right for You?

Sinking Funds vs. Emergency Funds

With emergency funds and sinking funds, it's not an either/or scenario. You probably need both.

• An emergency fund is your safety net for the truly unexpected—like a surprise car repair, medical bill or sudden job loss. It's money you keep on hand so you can cover urgent, unplanned expenses without taking on debt.
• Sinking funds, on the other hand, are aimed at expenses you know are on the horizon. Vacations, annual insurance premiums, holiday gifts or a new laptop—if it's predictable, it belongs in a sinking fund.

Use your sinking fund to save up for future needs (and wants!) and keep your emergency fund handy in case a cost comes up that you weren't expecting. Just remember: Don't raid your emergency fund for planned expenses—that's what your sinking funds are for.

Common Mistakes To Avoid With Sinking Funds

Sinking funds only work if you stay organized and disciplined. Here are the pitfalls to watch for:

• Underestimating costs. Don't forget to factor in inflation, fees and sales tax when setting your goal.
• Dipping into the fund. Your sinking fund should be hands-off. Treat it as money already spoken for and resist the temptation to use it for anything else.
• Skipping contributions. Consistency is key. Set a realistic target for your budget and stick with it so the fund is ready when you need it.

READ MORE: 6 Steps To Create a Basic Budget That Works for You

Tools and Apps To Manage Your Sinking Fund

A sinking fund is just another form of budgeting, and the right tools can help you stay organized. You don't need anything fancy—a simple spreadsheet or even a notebook works perfectly well.

But if apps are your vibe, look for one that allows you to allocate money toward specific goals and track your progress. Bonus points if it offers encouragement and fun notifications.

Sinking Funds: The Smart Way To Cover Big Costs

Your monthly budget is where you organize day-to-day purchases like groceries and rent. But when it comes to bigger-ticket costs, saving up is the way to go—and sinking funds are the tool that can get you there.

Take the first step today by choosing the right savings account for your sinking fund and automating your contributions. Future you will thank the present you for being prepared.

Read more about what Synchrony Bank's Online High Yield Savings Account has to offer.