"Our life is frittered away by detail...simplify, simplify."
-Henry David Thoreau
It's 2006 and I'm having lunch with a friend. He tells me that there's a website that allows me to track my net calories. I check it out and it's kind of cool. I can input all my food and it tracks those calories. I can create meals in the system so if I have the same meal over and over, I can tell it "ham sandwich" and it automatically inputs all the ingredients. I can enter activities and exercises, as well.
What I like about it is that it brings a heightened level of awareness to my net daily calories. It keeps a log of days I am net positive and net negative. I see trends that help nudge me to make better choices. "I can have that burrito for lunch," I think, "but I'll have to work out all three days this weekend. Maybe I'll skip the burrito today."
It worked great.
Until it didn't.
The thing is, as cool as it is, it takes a lot of work, it takes a lot of time...and a lot of honesty (those beers at happy had how many calories??).
I learned an important lesson; complicated strategies work great for a while, but it takes too much will power to keep them going. The same is true for personal finance and savings.
When it comes to our savings, there is one point of view that says we should create several accounts for different financial goals. These accounts are called sinking funds, because the balance tends to sink over time, and sometimes rises just to sink again. This is one account that is has one use of money in mind, and the money that goes into the account is only for that one purpose.
The upside is that it makes it easier for us to force ourselves to save. If we have specific goals attached to our different savings dollars, then we can visualize ourselves using those dollars in the future and it nudges us into helping our future selves. This is one way to take advantage of our tendency to fall for an error called mental accounting.
Many Accounts - Emergency Funds and Other Goals
With emergency funds, these proponents will say that only emergency fund dollars go into the account, and the account should never be used for anything other than emergencies. If you have something else you want to spend your money on you should open another account for that. And if you have a third use for your money, then you should have a third account open for that.
The idea is to have specific goals tied to each account. If you name the account and attach pictures to it, it makes it easier to save. The emergency fund is for unknown expenses only - true emergencies. Every other account is for some known future expense. You can call these goals or guesses, but if you want to buy a lake home, open an account called "2010 Lake Home on Lake Riley." Find a picture of it and attach it somehow, either in the software you use or on a spreadsheet somewhere.
The end result, is that you will have many accounts open, and many accounts to keep track of.
Many Sinking Funds
Instead of one sinking fund, you will have multiple sinking funds to keep track of, to contribute to, to take money from for these expenses, and to get statements for. In the short run it may help you contribute more by tricking you into saving more, but will it work for you in the long run? I'm not suggesting it will or won't; if it does work, do it. I'm suggesting focusing on a complex strategy of many accounts that tricks you misses the point. It's like aiming for one job at one company, instead of bettering yourself.
The point should be to help you get better at managing your money. If you kept bleeding out of your thumbnail, you could keep buying bandages and the problem would be mitigated. But in the long run you will get frustrated buying, applying, and removing so many bandages. It's best to try to figure out what's causing you to bleed and fix that.
Fewer Accounts - The Simple Approach
A simpler approach is to have fewer accounts. This "simple" approach will require some time up front, because you have to take the time to figure out not only how much you can save, but what you are saving for and how much you will need.
Once you do the hard work of setting it up and putting a process in place, you are good to go. You can still use pictures, you can still automate this, and specific names for the things you want to use your money on, but you will do this with far fewer accounts.
Short Term Success
I'm not saying the the sinking fund method is worthless. Indeed it's a great short term strategy. It does have the ability to help people get their savings rate up. I am skeptical that it helps in the long run, though, as it's hard to keep complicated situations going for long.
Another source of skepticism is after you get your savings rate up to some industry recommended rate (say, 15%), then what? If you start to get raises and bonuses you are likely to keep your same savings rate (which does increase your savings, because 15% of a larger number is a larger number), but lifestyle creep becomes more likely. Once you have a lifestyle that you are comfortable with, all additional money can be saved with no impact on your current (desired) lifestyle. If you adopt an approach to keep a static savings rate and your income rises, you can be tempted to increase your lifestyle with no addition to your happiness.
The Simple Financial Life
Fewer accounts is more simple than managing multiple accounts. The goal for most of us is to have a simple financial life. I'm all for finding workarounds to things we can't do ourselves, but I find it hard to believe that a complex situation will work better for most people. Set up a good process and good systems, and the goals will take care of themselves.