I mentioned in a previous post that I learned quite a bit from Mary Hunt, author of The Cheapskate Monthly Total Money Makeover. Her advise about a freedom account is what I now call my escrow account, because it works just like the escrow account attached to our mortgage.
Planning for large annual bills or expenses is key to keeping our budget intact each month. It really does give us freedom!
I have a page on the left sidebar explaining a little about our escrow account. We only have 5 items in ours at this time. If you are just beginning it may make more sense to pick one or two to convert to this escrow system.
An escrow account can included anything that you pay less frequently than monthly. Some examples are: life and auto premiums, auto registration fees, annual gym memberships, tuition, holiday gifts, birthday gifts, and vacations.
To begin total up the annual amount that you expect to pay for the items you wish to escrow. Divide this total annual amount by 12 (for the number of months in a year). This monthly figure gives you a starting point for how much you should put aside each month.
It's important to then evaluate that monthly number against actual outflows. I have one month where I need to pay auto registrations and insurance premiums equal to $643.00 Obviously, this cannot be covered by one months escrow deposit.
I find it helpful to go month by month, starting with the current month, looking at inflows and outflows and each monthly balance. Some months will be positive and some months are negatives.
If you start escrowing without some money already set aside and come to a month where the net balance is negative you would need to find additional money in your current month's budget to fund that particular bill.
The other option is to start the escrow account with an amount equal to the largest negative balance you arrive at when evaluating inflows and outflows.
In the first year you could also divide negative cash balance by 12 and add it to your monthly escrow account. You still may have negative months, but by the end of the next year you should have a balance to begin you escrow account with. And as a result your monthly escrow amount should go down.
I know this was a little long on the explanation. I hope it helps someone out there in blog world with their budgeting, planning and debt payoff. If you have questions let me know. If I made an error in explaining, it would be helpful to know that too. We're all here to work together after all.
Saving For The Large Bills
March 31st, 2008 at 05:25 pm
March 31st, 2008 at 06:32 pm 1206988326
When we were less focused with every dime, we didn't have an escrow account. (We just always made sure to have plenty in savings).
But last year we started a stricter budget and using a similar escrow method. Last year all we did was insurances and property taxes out of there (the BIG expenses).
This year I started adding $100/month to cover vacations and also all of the little one-time expenses. We try to pay them out of budget (subscriptions, auto reg., anything one-time and regular like that, that are all generally less than $100). But if we have a budget gap due to a one-time expenses, we have the funds to cover it.
Likewise, I am adding $100/month come summer, for car repairs/school expenses. I think we will feel pretty covered at that point.
OF course, at that point we will be setting aside $1k/month for this stuff. No small beans. But it pretty much ensures we don't have to touch our long-term savings for this kind of stuff. Likewise, if we over-save, we put it into long-term savings on Dec. 31, and we start over every year.
We also took a $250/month price reduction on our medical insurance for taking a $3k deductible. So we escrow that as well - totally separate. But same concept I guess.
It just makes finances so much easier when every dollar has a name.
March 31st, 2008 at 11:32 pm 1207006373