Sinking funds vs Reserve funds

[Nutria]

I had an epiphany the other day on Donald Rumsfeld, and the difference between sinking funds and reserve funds.



Sinking funds are for "known knowns": non-monthly expenses we know (or at least can make an educated guess about) we know about what, when and how much, when we "embrace our true expenses". Examples are

1. Annual property tax,
2. oil changes,
3. tire replacement,
4. vacation,
5. Holiday+birthday gifts,
6. semi-annual auto insurance,
7. annual homeowners insurance,
8. quarterly alarm protection service,
9. roof replacement,
10. A/C replacement,
11. new car,
12. even things as trivial as the bimonthly water+sewerage bill.

Reserve funds are are for "known unknowns" non-monthly expenses we know (or at least can make an educated guess about) will happen, but do not know when or how much. Examples are:

1. Auto repair,
2. home repair,
3. medical deductibles and whatever else insurance doesn't pay for.

The Emergency fund is for "unknown unknowns" and to backstop the Reserve funds.

[kork13]

Interesting thought process, though I kinda look at it more holistically.

I'd argue that auto/home/human repairs (human repairs=medical...call me a cynic) still fall into sinking funds. They're definitely gonna happen on a regular basis, but you wouldn't keep building up those funds to an indefinite level, because you can be fairly confident (from experience over time) that they aren't going to exceed certain reasonable limits. Also, by your model, there's very little difference between sinking & reserve funds, and they're basically treated the same way -- they all get put into an ultra-safe savings account, because you're likely going to use those funds every year or two.

Based on that premise, your Emergency Fund is really a backstop to the sinking funds, in the event that some random expense (car blows up, house blown down, etc.) was grossly more costly than anticipated.

I see "reserve funds" (for known unknowns) as an investment for future growth, that are completely nebulous, and you'll never really stop adding to them. Like how a well-managed business maintains/builds a reserve fund to buy new buildings, fund corporate acquisitions, buy new equipment/technology, fund R&D projects, etc. On a personal level, we save/invest for retirement, college expenses, and future homes & cars (those last two are arguable, sinking vs. reserve). Because they're specified for a far-off date, you have no idea how much it'll really cost, you're never gonna stop saving for those until you're physically unable to do so -- you're retired and no longer earning an income, or your kids are already through college, or whatever. And your EF can't really help if your reserve funds (retirement, for example) are insufficient for your needs...which again, means you never stop saving into them.

Not saying you're wrong by any stretch, just a different viewpoint.

[Nutria]

Interesting thought process, though I kinda look at it more holistically.

I'd argue that auto/home/human repairs (human repairs=medical...call me a cynic) still fall into sinking funds. They're definitely gonna happen on a regular basis, but you wouldn't keep building up those funds to an indefinite level, because you can be fairly confident (from experience over time) that they aren't going to exceed certain reasonable limits. Also, by your model, there's very little difference between sinking & reserve funds, and they're basically treated the same way -- they all get put into an ultra-safe savings account, because you're likely going to use those funds every year or two.

Right. The two are very similar.

There's no rule which says you can't cap a Reserve Fund at some arbitrary (but possibly researched) level. Mainly (only?) that a sinking fund has a (relatively) known goal: pay auto insurance in 6 months. (Sure, you don't know exactly how much the premium will be, but increasing your current premium by 5% is Good Enough.)

But I don't know when (or if) the alternator is going to die, the cat's going to get sick or the water heater will leak while I'm away for the weekend. They might not, but I think it's prudent to save for these classes of expenses anyway.

Sure, you could pay for it from your Emergency Fund, but by "embracing your true expenses" (I got that from YNAB) the number of actual emergencies shrink.