The Psychology of Budgeting, Part 5: Annual Expenses Happen. Plan for Them.

There are two distinct phases in my budgeting life: BGR and AGR.

BGR, or Before Getting Real, was when we were perennially caught off guard by the arrival of our (not small) annual car insurance bill. We didn’t have any wiggle room as it was, so paying a couple thousand shekel bill was nearly impossible. I would divide that bill into four payments, but frankly, I’m not sure that it made much of a difference. Either way, we were living beyond our means.

AGR, or After Getting Real, is when I get the bill in the mail, stick it in my To Be Paid file and experience absolutely ZERO stress. When it comes time to pay the bill, I calmly transfer the funds from our online savings account to our checking account and write a check. In AGR, I don’t even break a sweat when we get annual bills in the mail. They are a total non-issue.

If you don’t currently plan for annual expenses, it might be because you’re living in BGR (also known as denial ;-).) Maybe it’s because, like us, you can’t figure out how to pay for your monthly expenses – let alone your annual ones.

But trust me, your finances are contending with those expenses one way or the other – and once you start planning for them, it will be infinitely easier to absorb them.

Here’s what we did: We went back over all of our check registers and credit card bills to make an exhaustive list of our annual expenses – you know, the stuff you get a bill for once or twice a year. We also included unplanned-but-not-unpredictable expenses, like birthday gifts and dental visits.

Then we broke those expenses down into twelve (or six) equal payments and put that amount as a line item into our budget.

Some of these expenses – like synagogue dues – could be be paid monthly without interest or fees. So, we just pay them monthly. But other expenses — like car, home, life and disability insurance — will charge you a convenience fee for paying monthly. Usually it’s only $2 or $3/month. But if you do that on five or more items, it adds up.

Our solution was to pay those bills annually or semi-annually. In order to ensure that we have the funds to pay the bills when they arrive, we actually move the money out of our checking account and in to an online savings account.

I like to use Capital One 360, since it allows me to have sub-accounts, which I find visually helpful. Rather than all the sink funds lumped up into one big account, I have a large account for property taxes and a small account for Home Owners dues.

I furthermore set these up as automatic transfers – it helps keep me accountable. If a full-on emergency happened and our EF was completely tapped out, I could also “raid” these funds to help us get by.

When the annual or semi-annual bill comes – or the unplanned-for-but-not-unpredictable event happens, I simply request a transfer of funds out of the Capital One 360 account and into my checking account.

Here are the annual expenses that I budget for with monthly “sink” funds:

• Accountant – Since we have our own business, we pay our accountant quarterly and annually. I just added up these fees, divided by 12 and sent that amount to the sink fund.

• Auto Registration Renewal

• Car Insurance

• Car Maintenance & Repair – This includes oil changes, tire rotation, regular services and of course, out-and-out repairs. (The idea here is to be so prepared that we never have to dip into our Emergency Fund to pay for car repairs – it’s mostly working.)

• Car Replacement Fund – Once we bought our van, we actually stopped funding this, since we don’t plan on replacing our van anytime soon. If we needed to do so in a hurry, we’d probably sell our second car for cash.

• Computer Replacement – I assume I’ll get a new computer every four years, so we divide out the rough cost ($1,500) by 48 and save that amount each month. I also use this fund to pay for stuff I need for the computer – like when my optical drive went bad and I picked up an external one.

• Disability Insurance

• Family Gift Giving – I wrote about this fund on my post about the cost of birthdays.

• Home Insurance – Since the amount tends to fluctuate from year to year, I make sure to adjust our monthly deduction accordingly.

• Home Maintenance & Repair

• Home Owners Association (HOA) Dues

• Life Insurance – Ditto home insurance and having to adjust our deduction.

• Property Taxes

• Vacation – Since we have variable income, the amount we send to the “vacation fund” varies – it doesn’t always get funded.

We pay for our dental, eye care and other miscellaneous health expenses out of my Health Savings Account (HSA), which we also fund monthly. The maximum individual contribution to an HSA is $3050 per year, so we budget 1/12th of $3050 each month. If we suddenly have a big bill early in the year, we “borrow” from our Emergency Fund and repay it as quickly as possible.

I also want to add in a word about how we budget for summer activities. Expensive sleep-away summer camps are not in our budget, but we do plan for the occasional day camp, lessons or other summer fun.

We account for this as follows: We actually pay for school in ten months, but we don’t take a break from that “payment” in June and July. Rather, that line item becomes our “summer fun fund”. We pay for camps and classes out of that fund – and when it’s gone, the kids get Mommy Camp.

Do you budget for annual expenses with monthly sink funds? Do you have another system that works even better for your family? Are you still in the “BGR” phase? What are your biggest challenges with annual expenses?

Read more in my Psychology of Budgeting series here.