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One of the smartest things you can do with your money is to build a robust emergency fund that can help you out in the event of a sudden major expense or job loss. This fund should be used to make sure unexpected costs don't throw your budget into a tailspin. Not every unplanned expense is an emergency, though. What if you're invited to a wedding, your bike is stolen and you'd like to replace it, or after many years it's time to upgrade to a new TV?
Even though these expenses don't fall into either the "recurring" or "emergency" categories, you can still plan and budget for them. Use these strategies to make sure you can pay for major one-time costs without going into debt or dipping into your rainy-day fund.
How to Budget for Annual Expenses
When you make a budget, the first steps are to determine your monthly take-home income and then list all your current expenses. This can help you understand how much of your available income you're spending daily, monthly and annually.
When you list your expenses, don't forget to include those that occur infrequently but that can still take a bite out of your budget: Common examples include homeowners, renters and life insurance premiums; membership fees for professional organizations; car registration; licensing or certification fees for your job; annual home maintenance; and holiday and birthday gifts.
These aren't monthly expenses, but they are ones you can plan for by setting a little bit aside every month. Take a look at your spending on these items from last year, either by viewing your bills or your credit card or bank statements, and identify how much you spent annually. Then, take the amount of each cost, total them all up and divide by 12. This is the amount you'll want to save per month in order to stay prepared.
Saving a little each month for these major expenses can help prevent you from putting them on a credit card and accruing interest on the balance if you don't pay it off right away. Consider setting up a specific savings account just for annual expenses, then automatically transferring the monthly amount for each expense to that account. When the expense comes up, you'll pull from that account. Or, simply transfer the monthly portion of each expense to your general savings account and make payments from there when needed.
How to Budget for (Non-Emergency) One-Time Expenses
Other expenses happen even less often than annually, and can feel harder to budget for. Perhaps you'd like to take a trip for your five-year wedding anniversary or pay for an elective medical device or procedure, like laser eye surgery. Or you know friends are planning big weddings in the next few years, and you'd like to be able to attend.
In some cases—such as with medical procedures—you can do some research to identify how much they'll cost and budget monthly for the expense using the advice above. If you'll be paying $1,000 one year from now, save about $83 a month, for example. But since one-time expenses are by nature hard to plan for, it's a wise choice to set up a dedicated account for unexpected, non-emergency expenses and send over a certain amount that you can afford each month. That also gives you a built-in budget for these nonessential costs, which can help you determine how much you can truly afford to spend on them. If budgeting monthly breaks the bank, you might even rethink whether the purchase is affordable in the first place.
When it comes to where to keep your savings, you can set up individual savings accounts, or buckets within a single account, for different types of one-time expenses: a vacation fund, friends' wedding fund, health care costs fund and so one. This is easy to do at many online banks that offer high-yield savings accounts.
Here's what setting up these accounts might look like. Say that in the next year, you foresee going on three major trips, and that in the past, those cost about $1,000 each. You'll aim to save $3,000 in total, or $250 a month, in a vacation fund. So you'll open up a vacation-specific savings account at a bank and transfer $250 there every month, ideally knowing that your money will accrue interest while it waits for you to withdraw it for vacation.
Can One-Time Expenses Affect Your Credit?
Simply paying a large amount once with money from your checking or savings account will not affect your credit. However, you could see an impact on your credit score if you put that large expense on a credit card. That's because the purchase would increase your credit utilization, which measures the amount of available credit you're using compared with your credit limit. Credit utilization is one of the most important factors in your credit scores, and the more of your credit limit you use, the higher your utilization will be.
This isn't a problem if you pay off the charge, and ideally your whole credit card balance, by the end of each month. But if you don't, you'll also pay interest on the balance that stays on your card the following month. That will make the expense even pricier, and will keep your credit utilization higher. Missing a payment will have the biggest negative impact on your credit score, so make sure that you're able to make a payment on your credit card at all.
It could make sense to use a credit card for a one-time expense if you have access to a credit card that provides generous rewards or a 0% interest promotional period on your credit card. When a card charges no interest during an introductory period, you'll be able to pay down the purchase over time without accruing any interest charges—as long as it's paid off before the promotional period ends, that is.
How to Make a Budget That Covers All Types of Spending
To make a strong budget you can stick to, you'll typically need a few different bank accounts. But by setting up automatic transfers and getting regular notifications about your balances, you'll be able to stay on top of your spending and saving without too much extra effort. Here's how to do it:
- Use your checking account only as a place to deposit your paycheck and pay for regular expenses. This includes groceries, rent and utilities. Since checking accounts often don't come with high interest rates, you'll lose out on potential earnings if you keep all your money there. Set up automatic transfers from your checking to your separate savings accounts to make sure you earn as much interest on savings as possible. You will need a cushion in your checking account to prevent an overdraft. For instance, you may decide to keep an extra $500 to $1,000 there per month beyond your basic expenses and the amount you send to savings, but transfer the rest elsewhere.
- Use a high-yield savings account for your emergency fund. This allows you to earn interest on money that you most likely won't spend for a while. You could also keep an emergency fund in a money market account or certificate of deposit (CD), but these accounts come with more restrictions on how and when you can withdraw your money. If you don't yet have an emergency fund, you can start transferring money to that fund each month, as well, until it's built up to the recommended amount of three to six months of your necessary expenses.
- Set up separate high-yield savings accounts. This can be where you keep funds for annual expenses, and perhaps other accounts—or sub-accounts at the same bank—for one-time expenses. You'll transfer money there from your checking account monthly, based on your estimates for how these expenses will cost.
Make a Plan to Protect Your Credit
Having a plan in place to handle unplanned expenses can help prevent you from taking out a loan or going overboard on credit card spending. When it does become necessary to use credit to finance a purchase, however, it's important to make sure your credit report and score are in good shape. Monitor your credit through Experian to stay on top of things like score changes, potential fraud and updates to your credit report. This can make it easier to borrow when the time comes and help make sure you get the best rates.