What is a sinking fund?

A sinking fund is specifically a savings strategy designed to accumulate money over time for anticipated large expenses. This approach involves setting aside a certain amount of money regularly, which can later be used for planned expenditures, such as buying a car, funding a vacation, or replacing appliances. By using a sinking fund, individuals can avoid the stress of having to make large payments all at once and can instead spread the cost over time, making budgeting more manageable.

The other options do not accurately describe a sinking fund. A sinking fund is not a long-term investment like those intended for retirement, which typically involve various investment vehicles with the potential for growth over many years. It also isn’t meant to pay off recurring debts, which usually refer to bills or loans that require regular payments rather than savings for future one-time expenses. Lastly, while diversifying investment portfolios is an important financial strategy, it is not related to the concept of a sinking fund, which focuses specifically on saving for future purchases rather than investment variety.