Sinking Fund

Instead of facing a large bill all at once, a sinking fund spreads the cost over time. You estimate the amount needed and the date, then save a fixed amount each period.

For individuals, sinking funds are often used for predictable but irregular costs, such as annual insurance premiums, car repairs, holidays or school fees. If a car insurance bill of 6,000 is due in twelve months, saving 500 a month into a separate account means the money is ready when the bill arrives.

Sinking funds differ from emergency funds. An emergency fund is for unexpected events; a sinking fund is for expected expenses whose timing and approximate size are known.

Companies and governments use sinking funds too, especially for bonds. A bond with a sinking fund provision requires the issuer to set aside money, or to buy back part of the bonds, each year before maturity. This reduces the risk that the issuer will be unable to repay the full amount at the end, which can make the bonds safer for investors.