Big expenses don’t always have to come with big stress—especially if you’ve been planning for them ahead of time. That’s exactly where a sinking fund comes in. Whether you're a salaried professional saving up to buy a car or a company preparing to repay a loan, a sinking fund helps you save steadily over time so you’re financially ready when the time comes.
It’s like setting aside small amounts regularly in a separate pot, knowing you’ll need that money down the road—for a planned purchase, a future liability, or even to replace an asset. Instead of scrambling for a loan or breaking into your emergency savings, you’ve got funds ready to go.
If you are preparing for a financial milestone in the next few years, setting up a sinking fund can ease future pressure without disrupting your current budget. Explore smart mutual fund options now!
This article will walk you through everything you need to know about sinking funds—what they are, how they work, why they matter, and how they can help you avoid last-minute financial pressure, especially when backed by smart investment options like mutual funds.
What is a sinking fund?
Imagine having a financial cushion ready for a big expense—without scrambling for a loan or dipping into emergency savings. That’s exactly what a sinking fund does. It’s a simple yet powerful strategy where you set aside money bit by bit over time for a specific purpose, like repaying a loan, replacing expensive equipment, or buying a new car.
Sinking funds aren’t just for individuals—they’re widely used by companies too. Whether it’s repaying bonds, settling long-term obligations, or replacing depreciating assets, this method helps avoid financial shocks. Instead of bearing the burden all at once, you save steadily, making those large payments easier to manage when the time comes.
By committing to small, regular contributions, a sinking fund allows you to plan ahead without disrupting your daily budget. For businesses, it’s also a sign of financial discipline and reliability, which reassures creditors and investors. Simply put, a sinking fund helps you prepare for tomorrow, starting today.
If you are planning long-term expenses like home renovations or a child’s education, understanding how much to save yearly is key. Compare mutual fund options now!
Sinking fund example
Let’s look at a practical example to see a sinking fund in action.
Corporate example:
A company issues bonds worth Rs. 50 lakh that will mature in 10 years. Instead of scrambling for the full amount a decade later, it starts putting Rs. 5 lakh aside each year into a sinking fund. By the time the bonds mature, the money is already set aside—no surprises, no financial panic.
Personal example:
You’re planning to buy a car in five years, and it’ll cost Rs. 10 lakh. If you create a sinking fund and save Rs. 2 lakh every year, you’ll be able to pay for the car outright without taking a loan or disturbing your emergency savings.
In both cases, the sinking fund acts like a financial GPS—it helps you reach your goal without detours, delays, or debt.
Formula of sinking funds
Ever wondered how much you need to save each year to reach a specific financial goal? That’s where the sinking fund formula comes in handy. It helps you figure out exactly how much to set aside annually to cover a large future expense—like repaying a loan or replacing an expensive asset.
The formula is:
S = (P × i) / [1 - (1 + i)^-n]
Where:
- S = amount to be saved every year
- P = total cost of the goal or debt
- i = interest rate
- n = number of years you’ll be saving
Let’s break that down with an example. Suppose you have a loan of ₹5,00,000, due in 10 years, and you expect to earn 5% interest on your savings. You’d need to save around ₹65,145 every year to meet that goal without needing another loan or dipping into emergency savings. This makes big expenses feel more manageable and predictable.
Some investors also use this method for investing in mutual funds—whether through monthly SIPs or one-time lump sum contributions—so they can build a financial cushion for upcoming needs.
Method to calculate sinking fund
The sinking fund method is a smart way to prepare for large payments or asset replacements without financial strain. It starts with one simple step: setting aside a fixed amount of money at regular intervals—typically monthly or yearly—into a separate account or low-risk investment.
Over time, this growing fund gives you the financial muscle to handle big-ticket obligations like repaying a business loan or replacing ageing equipment. Instead of scrambling for funds when the time comes, you’ll already have what you need—thanks to steady, disciplined savings.
Here’s how it works in practice:
- You determine your financial target.
- Set a timeframe to achieve it.
- Divide the target by the number of saving periods (months/years).
- Make consistent contributions until you reach your goal.
It’s a tried-and-tested strategy for anyone who wants to stay ahead of debt or be financially prepared for big expenses.
