Do you ever feel unsure about the difference between a sinking fund and an emergency fund? You’re not alone! While both play a crucial role in managing your money, they serve very different purposes.

In this blog, we’ll break down what each one is, how they work, and why they’re both essential tools for achieving financial stability. By the end, you’ll have a clear understanding of when to use each fund and how they can help you stay prepared for both planned expenses and life’s unexpected surprises.

When we first started budgeting, I often felt like we were on top of my finances — until something big came up. One month, it was an unexpected car repair. Another, it was our annual house insurance renewal, which we had both completely forgotten to plan for. Even predictable expenses like the dentist caught us off guard, and each time, they would derail our entire budget.

This cycle went on for years. It wasn’t until my husband and I discovered sinking funds and emergency funds that we finally began to feel in control of our finances. These two tools have been absolute game changers for us.

They allowed us to break free from the constant stress of unforeseen costs and create a financial plan that truly works. Let me explain how these tools work, why they’re different, and how to set them up.

What Is a Sinking Fund?

A sinking fund is money set aside for a specific, planned future expense, such as a holiday / vacation, a wedding, the dentist, home renovations, or Christmas and birthdays! The term comes from the investment world, where sinking funds are used for paying off debts or bonds.

Using a sinking fund increases your spending power without forcing you to rely on your emergency savings or use credit such as a loan or credit card. By saving for planned purchases, you can avoid paying interest and ensure you’ll have enough funds available if an urgent expense arises.

For us, sinking funds transformed how we approached budgeting for holidays, annual subscriptions, and even car maintenance! It felt empowering to know that when these expenses cropped up, we already had the money ready to go.

Sinking Fund Categories to Consider

Here are a few examples to get you started:

• Annual car service
• Christmas and birthday gifts
• Medical expenses including dentist
• Pet care
• Holidays and weekend getaways
• Home repairs and new appliances
• Annual subscriptions like Amazon Prime or Netflix

We started with just a couple of sinking funds and have since expanded to nearly a dozen categories. The flexibility this gave us was incredible — our budget became less reactive and more intentional.

How to Create a Sinking Fund

Set Your Goal: Decide how much you want to save for your specific expense.

Choose a Time Frame: Calculate how much you need to save monthly to reach your goal by your desired deadline.

Set Up Contributions: Automate your savings with regular transfers into a dedicated account. This could be weekly or monthly, depending on your income and savings capacity.

Track Progress: Use tools like You Need a Budget (YNAB) or savings accounts with buckets to keep track of your sinking funds.

Read more: What is a sinking fund?

What Is an Emergency Fund?

An emergency fund is your financial safety net, reserved for true emergencies. This fund is critical for unexpected, high-impact events such as job loss, medical emergencies, or urgent home repairs.

By being able to cover unplanned purchases with cash, you can avoid racking up credit card debt, taking out loans, or asking family for money. During the pandemic, our emergency fund became more critical than ever. Knowing we had this buffer gave us peace of mind in uncertain times.

Read more: What is an Emergency Fund?

How to Build an Emergency Fund

Determine Your Goal: Experts recommend saving 3-6 months’ worth of essential expenses, focusing on necessities like housing, groceries, and utilities. Start with a smaller goal if needed — even having £750 saved can make a difference in emergencies.

Choose the Right Account: Keep your emergency fund separate from other savings in an easy to access account for, well, quick access! It’s not good for a 90 day account, because when you need the money, you’ll need it quickly! 

If you’re in the UK, I highly recommend NS&I premium bonds. We’re not concerned about gaining interest in this account, you just need to get to the cash quickly. 

Automate Deposits: Regular contributions build your fund over time. We started with £50 per month and increased it as our budget allowed.

Replenish When Needed: If you dip into your fund, make it a priority to rebuild it as soon as possible.

Having an emergency fund has saved us from financial disasters. When our car needed a costly repair, we were able to cover it without stress. Similarly, when the boiler broke, our emergency fund allowed us to sort that out without purchasing a new boiler on the credit card.

Why Use Both Sinking Funds and Emergency Funds?

Sinking funds and emergency funds serve different purposes but work together to strengthen your financial foundation. Sinking funds help you prepare for planned or semi-expected expenses, while your emergency fund is there for life’s true curveballs.

Before we set up these funds, unexpected expenses felt like constant roadblocks. The stress was especially hard on our relationship; money discussions often led to tension. But once we committed to these tools, everything changed. Using sinking funds meant we didn’t have to dip into our emergency fund for predictable costs, and having an emergency fund gave us peace of mind for the truly unexpected.

Final Thoughts

Both sinking funds and emergency funds are vital for a healthy financial plan. By deliberately saving up for both planned and unplanned future expenses, you’re helping reduce your chances of going into debt while preserving your credit and financial health.

Setting up these funds has not only transformed our finances but also strengthened our confidence and communication as a couple. If you’re ready to change the way you budget, start small, stay consistent, and watch your financial stress melt away. These tools are absolute game changers — and they can be for you too!