The following is a guest post by Kurt Fischer of Money Counselor
So much is written about building an emergency fund you likely know very well (even if you don’t yet have a fund) how important this shock absorbing stash of cash is to your family’s stability. But say you’ve socked away an emergency fund large enough to carry you through the consequences of the next meltdown and you’re making hefty contributions to tax-advantaged retirement and college accounts. First: Way to go! And second: Thanks to your money diligence, now is the time to add another layer of financial security to your family’s money defenses and help assure your family reaches its goals by setting Planned Savings targets.
What Are Planned Savings?
In simple terms, Planned Savings is cash set aside at a regular, pre-set rate to meet a specific purpose.
The purpose of a Planned Savings fund is either a large periodic expense—an annual insurance premium, holiday spending, or a big tax bill, for example—or a family goal like a camping trailer, a vacation, or a remodeled bathroom.
Without Planned Savings, you’d either have to dip into your family’s Emergency Fund or borrow money to meet periodic expenses. (To my way of thinking, an “emergency” is something unexpected. Anything you can foresee and plan for is not an emergency; aim to preserve your emergency fund for genuine shocks to your family’s finances.) And all families have goals, but meeting goals that cost money won’t happen without a plan (or that lucky lottery ticket on which many seem to be counting!).
Setting Up a Planned Savings System
Here are a couple of examples of setting up Planned Savings.
Say you pay your auto insurance annually. The premium is $1,200, and it’s due May 15th. To avoid borrowing some or all of the $1,200 or cannibalizing your Emergency Fund, start setting aside $100 per month targeted for auto insurance. If your first set-aside is made in July, to assure you’ve got $1,200 on May 15, try to jumpstart your auto insurance Planned Savings with a $200. Then by adding $100 each month August 2012 through May 2013, you’ll have $1,200 saved in May. (If you don’t have the extra $100 to jumpstart the fund in July, then set aside $110 instead of $100 each month.) Then start over in June 2013, setting aside $100 each month.
Has your family been aching to take a two-week tour of the Rockies? Say you figure a budget—gas, lodging, food, and fun—of $2,500. And you’re aiming to take this trip in August of 2014 when your kids are old enough to help you dispense bear spray and extinguish tent fires effectively. If you start saving in July 2012, you’ll have 25 months to save the $2,500. So set aside $100 cash each month in your Rocky Mountain Planned Savings fund, and you’ll enjoy your trip a lot more knowing you won’t be paying for it over many years to come through high-interest credit card debt.
A Family Budget Helps
For discretionary family goals like the Rocky Mountain vacation, a family budget helps a lot. If you know your expenses and where your money is going, it’s easier to identify where you can cut back and juggle priorities to free up money for the vacation fund, if that’s what’s really important to your family. If you save by throwing loose change and “extra” money into a vacation fund whenever there seems to be extra money, that vacation may never happen, except on credit, which could easily double its cost.
The Mechanics: Where to Keep Planned Savings
Setting up a separate bank account for each Planned Savings goal is overkill, but a single, separate account designated Planned Savings is a good idea. Then just keep a simple ledger or spreadsheet with line items for each periodic expense or family goal down the left side and the months across the top. Add up the monthly contributions for each line item and deposit that total into your Planned Savings each month.
As a general rule, the sooner you expect to spend a Planned Savings fund, the less risk you should take with it. For the examples above, I’d keep the money in a money market or bank account. No, you won’t get much interest these days, but you’ll know the money is there when you need it. If you are saving for a goal that’s a decade in the future, you could take more risk with your fund, if doing so doesn’t disturb your sleep.
For help in determining how much you should save each month to reach a savings goal at a specific time in the future, try this calculator.
How Do You Save?
Would this system work for your family? Do you have a technique for assuring you can pay periodic expenses and fund discretionary goals with cash instead of costly credit?