For years, my husband and I lived paycheck to paycheck. Then life happened, and we started living credit card bill to credit card bill.
The way we climbed our way out of that cycle is a long story, but if I had to pick the one turning point, I’d say it was finally making and living on a budget.
When you don’t make much money, living on a budget is tough. After all, we figured our needs would always be far greater than our income. But our perspective on that totally changed once we learned two magic words: Sink funds.
Why January Was the Downfall of Our Financial Year
Before we did our whole “get out of debt thing“, our most stressful financial time of the year was January.
That’s because in January, we got our annual car insurance bill. The bill was around $1500 and if I recall correctly, the maximum number of payments I could make on this bill was five – or $300 per month from January thru May.
On a budget that was already over-extended, an extra $300 per month was impossible. So we put more stuff on the credit cards those months in order to “afford” the insurance premiums – further exacerbating our cycle of debt and money mismanagement.
Just as we were ‘recovering’, September would hit – with its increased food expenditures for the holidays. More credit card bills.
We just couldn’t figure out how to get ahead. Our inability to handle those big annual expenses made “paycheck to paycheck” look like a pipe dream.
How Sink Funds Helped us Break the Paycheck to Paycheck Cycle
Once we paid off all our debt, it was time to start working on saving up an emergency fund.
Now, an emergency fund is an incredible way to create a financial buffer between you and the mess that life sometimes hands us. But we weren’t content to just have money set aside for the worst case scenario.
We wanted to have money set aside for the regular case scenarios, too. The ones we knew were coming but weren’t able to cash-flow.
So we began to implement the idea of sink funds.
A sink fund is where you set aside (i.e. “sink”) a fixed amount of money every month to preemptively cover annual or semi-annual bills.
Saving this money into a separate account is essential for us, because otherwise we would be too likely to spend the money on something else. (Here’s a full write-up of how and where we save our sink funds.)
Just what kinds of things do we “sink”? Here’s a look at four of them:
Car Insurance Sink Fund
We take our annual car insurance bill and divided it by 12. Now when the insurance bill comes in the mail, I simply transfer one-half (our bill now comes twice a year) of the fund into our checking account and write a check.
We do the same for life insurance, home owners insurance and our disability policies (we’re self-employed, so all that is “on us”.)
If our rates go up, we might be a few dollars short in our sink fund. That’s easy enough to cash flow, and we adjust our monthly payment into the fund going forward.
Family Gifts Sink Fund
We set aside a reasonable amount every month to cover birthday and Chanukah gifts for our immediate family. Years ago, we settled on $25 per month. For some, the right amount might be $5 per month while others might be able to afford $50 or even $100 per month. There is no right or wrong answer, as long as it make sense in your budget (remember this is PERSONAL finance.)
We move $25 each month into a separate savings account and then when birthdays or other gift-giving occasions come around, we pay our bills by moving the designated amount back into our checking account. Of course, we stretch our savings as far as possible by getting awesome deals.
We set up this system 6 years ago, when we were aggressively saving up our emergency fund and finances were much tighter. At this point in our financial lives, we could cash-flow birthday gifts, but I have come to really like the discipline of saving a little bit each month — and then knowing that the amount we can spend on gifts is limited by what’s in that account.
Home Repairs Sink Fund
I once read that you should assume that your annual cost of repairs will be 1-2% of the value of your home. In the last few years of home ownership, we’ve found that to be about right.
Each month we save 1.5% of our home’s value, divided by 12. When we need to fix the dish washer or weather proof the windows, the labor and parts all get funded out of the home sink account.
Again, we shop around and get multiple bids anytime we need to get work done – so that we’re still stretching our hard-saved dollars as much as possible.
(By the way, this amount is not going to be sufficient to cover major home improvement projects. If one of those is looming on the horizon for you, you’ll need to save more aggressively.)
Car Repairs, Maintenance & Replacement Sink Fund
To figure out how much to save to this sink fund, we roughly calculated the annual cost of car repairs and maintenance — from oil changes to new tires to the big maintenance checks (at 1050,000 miles, 127,000 miles, etc.)
We divided that amount by 12 and then buffered it a bit to cover unplanned repairs. Then we add in a bit more to help cover the cost of a new (to us) vehicle in 4-5 years.
In 2010, we bought our new-to-us 2004 Honda Odyssey van. With regular maintenance, we’re hoping it lasts us until about 200,000 miles. But since car loans aren’t an option for us, we’re saving for it now.
This is just four of our sink funds; in total, we have 14 — all of which you can read about HERE.
Each one of these funds has brought us tremendous peace of mind. On a modest income, we have been amazed by how much more money we feel like we have when it’s bill-paying time, thanks to these sink funds.
If something truly emergent should happen, G-d forbid, we always have our emergency fund to fall back. But for the expected expenses - like insurance premiums – and for the as-of-yet-undefined-but-still-predict-able expenses - like home or car repairs — we now have the money to cope rather than turning to credit cards.
Are you looking for advice on how to turn your family’s paycheck-to-paycheck situation around? Personal budget coaching might be right for you.
Learn more about how to work with me personally to solve the stickiest parts of your personal finances and start winning through strategies like using sink funds.
Do you use sink funds to save for your annual expenses? What method do you use to pay for both expected and unexpected events?
(A version of this post originally appeared in 2011. Since sink funds still rock our world, I’ve updated this post with current information and am sharing with you again. If you find this helpful, you might want to Pin It for future reference!)