In the financial world, there’s a lot of talk about savings. And for good reason — savings help you become financially stable, now and in the future.
By now, you’ve probably come across the idea of having an emergency fund before. You might have even relied on one during the pandemic. But a sinking fund? That one isn’t as well-known to most people, so it might be unfamiliar.
While they both have the word “fund” in their title, they are two different types of savings. Let’s break each savings account down so you can understand their purpose in your finances.
What is an Emergency Fund?
An emergency fund is a specialty savings account for, well, emergencies. Consider it a backup to your usual budget that you can tap whenever an expense surprises you.
An emergency fund is an essential addition to your finances because it lets you handle something you couldn’t ordinarily pay for out of pocket with your paycheck. It gives you the cash to hire an electrician, get lab tests done, or repair your broken taillight without breaking a sweat.
Without them, many people rely on online personal loans as a stopgap. An online loan advances the cash you need upfront, which you’ll have to pay back in installments.
A financial institution like MoneyKey offers online loans as a safety net for when your emergency fund falls short of what you need. You can explore MoneyKey’s website for information about the kinds of online loans they offer, and how you might apply.
How Big Should Your Emergency Fund Be?
Most people will tell you to save three to six months of living expenses in your emergency fund.
Like most things in the financial world, take this rule with a grain of salt. You may need to tweak your goal to reflect your unique lifestyle, dependents, and risk tolerance. In fact, personal finance expert David Bach recommends savings as much as a year’s worth of living expenses in your fund.
What is a Sinking Fund?
A sinking fund is another savings account that has a different purpose in your finances. It’s designed to help you afford a non-urgent, planned purchase or financial goal. The idea is that you “sink” money into this fund over time so that you can eventually buy that new car or home.
A sinking fund doesn’t have to be this big of a goal. You can set up a sinking goal for anything, even if it’s just a new pair of shoes or a new gaming console. In fact, you can have multiple sinking funds for different goals at the same time.
Because a sinking fund is for planned purchases, relying on an online personal loan is not advisable if you don’t reach your target as quickly as you hope. Online personal loans are designed to be a backup reserve in emergencies only.
How Much Do You Need in a Sinking Fund?
Unlike emergency savings, there are no fast and hard rules here. It depends on what you’re saving for, as the price of your item or experience will dictate your target.
What’s more important is that you save up small amounts over time. This way, you won’t have to use a chunk of one paycheck to buy new shoes or take a vacation.
Takeaway:
While both funds help you make large purchases, you should use them for different occasions. An emergency fund is for the unexpected, while a sinking fund is for the expected.
