New Mustachian Here: Advice on Emergency Fund

[rn53982]

Hello to all as this is my first post to the MMM community, which I found just recently.  I am hoping to get some advice and opinions on my emergency fund, as I struggle what to do.

Out of my own admitted paranoia and constant need to think the worse, my current Emergency Fund that I have accumulated in my Savings account is just over $30K (and still growing).  As you can imagine, the % yield returned on savings is horrible and I feel that a large chunk of that money would be better served in other investments, although I am not sure what those are at this point.

Just to get an idea, what do some of you out there regarding the amount kept in your emergency funds?  I am debt free except for my mortgage and my only other expenses are utilities and cell phone.

Thanks in advance for any advice and glad to be part of the forum.

[AssetGrinder]

Is your employment steady?
what are your monthly expenses?
how long will 30k last you if you are out of work tomorrow?

If you have steady employment with low expenses then maybe keep about 3-6 months living expense in cash reserves.
The rest invest! and keep adding to investments

For investments you can do many different things depending on your risk tolerance.

A couple low cost index or specific mutual fund ETF,s
Corporate and government Bond funds
individual stocks
Real estate investment trusts
Preferred shares


Best of luck

[rn53982]

AssetGrinder thanks for the response. 

I have been with my current company for 15 years so yes I feel they are steady.  My current monthly expenses are about $1,300, that $30K would last almost 2 years if I was out of work tomorrow, of course that is not including what I would receive from unemployment benefits.

I already have a company matched 401K up to 5%, which i contribute 10% to and then a Roth IRA that I am maxing out each year.  If I were to pull out a chunk of that $30K what is the next "best" investment to diversify with?

Thanks

[GGNoob]

AssetGrinder thanks for the response. 

I have been with my current company for 15 years so yes I feel they are steady.  My current monthly expenses are about $1,300, that $30K would last almost 2 years if I was out of work tomorrow, of course that is not including what I would receive from unemployment benefits.

I already have a company matched 401K up to 5%, which i contribute 10% to and then a Roth IRA that I am maxing out each year.  If I were to pull out a chunk of that $30K what is the next "best" investment to diversify with?

Thanks

With that said, you certainly don't need to keep 2 years of cash on hand. Easiest thing to do would be to keep 3-6 months of cash on hand and move the rest into investments. Otherwise you could even invest the whole thing, but keep your "emergency fund" invested something like 40% stock and 60% bonds.

As far as the remaining cash, you could invest anywhere. Cheapest route would be Vanguard. Either do a three-fund portfolio that matches your target asset allocation, or invest in a simple Target Retirement or LifeStrategy fund that manages the allocation for you.

For my wife and I, we only keep about $5,000 cash. This basically just covers our annual expenses (life, car, and disability insurance, vehicle registration, income taxes). When those expenses are paid, the cash will be replenished. We do not feel the need to keep money on hand in case of job loss, because my wife and I both have secure jobs and can live off of just one income if needed. We do put money into a taxable investment account at Vanguard and would withdraw from that if needed for a large emergency.

[Petunia 100]

Consider maxxing your 401k.    If it eats into your net pay too much, supplement your income with a monthly withdrawal from savings. 

[GGNoob]

Consider maxxing your 401k.    If it eats into your net pay too much, supplement your income with a monthly withdrawal from savings.

I was thinking this as well.

[Another Reader]

Investing an emergency fund means you don't really have an emergency fund, but some investments you would liquidate in case of an emergency.  Since job losses are generally correlated with weak economies and weak asset markets, your 3 to 6 months of expenses could easily turn into 1.5 to 3 months of expenses just when you need the money.  Laddering your cash reserves in CD's and I-bonds is one way to squeeze out a little more yield, and go for the highest yield online savings/money market for the most liquid portion.  And have some reserves at the local bricks and mortar place, in case you need to walk in off the street and get enough cash to solve an immediate emergency.

[LadyStache]

I keep 1-2k liquid. The rest is in my Roth. I'm also a few months ahead on payments for a couple of my student loans, so I can suspend payments for a bit if there is a true emergency.

[Ybserp]

You could buy US Treasury bonds with the amount you do not need to keep liquid.

If I were you, I would keep 12 months in the highest paying combination of laddered FDIC-insured certificates of deposit (CD) I could find. Bankrate among other places will give you current CD rates. http://www.bankrate.com/funnel/cd-investments/cd-investment-results.aspx?ic_id=CDI_compare_rates_module:www.bankrate.com:1_Yr_CD&local=false&prods=15 (Full disclosure: my own emergency fund is mostly in a savings account, because my credit union's savings account interest rate is higher than the new CDs are offering.) If you don't understand how a CD works, please ask. I'd mentally consider only that 12 months worth of expenses as my Emergency Fund Savings.

The rest I would mentally categorize as Investment. I'd decide what purpose I wanted to invest the money for. Retirement is the most popular one, but Financial Independence is probably the more common goal around here. Once you pick the goal, you choose how to invest. There are tax advantaged methods for the Retirement goal you have probably heard of: Roth IRA, Traditional IRA, 401k, and so on.

For most people a good way to go is this:
(1) Live below your means. (most likely a check for you)
(2) Save at least a 3 month Emergency Fund. (check)
(3) Pay off loans with high interest rates. [Definition of high varies.]
(4) Invest in available tax advantaged retirement accounts up to the legal maximum.

Are you looking for investment suggestions?

[financialforager]

You should keep some of that money in a emergency fund. You could put it into a Capital one 360 account. It has a better yield then a savings account and online transfers are quick. I would say keep about $15,000 in it, since you have a steady job. Invest the rest in a Roth IRA with Vanguard. Good luck!

[LLCoolDave]

I faced a similar quandary for my emergency fund. I had $15k in a 1.5% CD. I held the CD for over a year. Cashed it out and put it into the Wellington fund. In the worst case scenario if you lose your job and the market is down the most Wellington will lose is 30%. So estimate what you need and up it by 30%. Most people will think 2 years expenses is too much. I keep $20k and 15 of that is in Wellington. That is one year for me and my job isn't nearly as secure as yours. In the month I've had it in Wellington I'm up more than $400. I think I was making $250 per year in the CD so I'm happy. Wellington has averaged 8% since 1929.

Wellington owns about 100 value stocks (2/3) and 500 bonds (1/3). They are spread across all sectors so you will never take a big hit.

Hope this helps.

[Nyarlathotep]

With that said, you certainly don't need to keep 2 years of cash on hand. Easiest thing to do would be to keep 3-6 months of cash on hand and move the rest into investments. Otherwise you could even invest the whole thing, but keep your "emergency fund" invested something like 40% stock and 60% bonds.

As far as the remaining cash, you could invest anywhere. Cheapest route would be Vanguard. Either do a three-fund portfolio that matches your target asset allocation, or invest in a simple Target Retirement or LifeStrategy fund that manages the allocation for you.

For my wife and I, we only keep about $5,000 cash. This basically just covers our annual expenses (life, car, and disability insurance, vehicle registration, income taxes). When those expenses are paid, the cash will be replenished. We do not feel the need to keep money on hand in case of job loss, because my wife and I both have secure jobs and can live off of just one income if needed. We do put money into a taxable investment account at Vanguard and would withdraw from that if needed for a large emergency.

That all seems like some pretty sound advice. I am kind of in the same situation as OP with trying to decide what to do with my "Emergency" fund. After reading that first link you posted it only seems to make sense to keep a moderate share of your "Emergency" fund invested. Personally I feel as if it is lost potential to let it rot in a savings account.

Thanks for the article!

[Davids]

If your current expenses are $1,300 per month then my suggestion is your emergency fund should be $10,800 ($1,300 *6 for 6 months expenses plus $500*6 for medical insurance assuming you single).

The remaining $20K I suggest opening up a Vanguard account and throwing it in the total stock market ETF, keep it simple.

[rn53982]

Thanks to everyone here for their comments and advice.  Now that I am really starting to try to learn and understand more of my financial picture instead of just "throwing money at it", I am starting to realize just how ignorant I am on the subject and feel quite overwhelmed by all of the information.

It does seem like the general consensus is that I have to much cash just sitting there doing nothing for me, so now I need to decide what to do.  I'm not familiar with Vanguard, but I see it mentioned a lot on the MMM site so it looks like I need to do some research and figure out what it is all about.

[NorCal]

If you have a mortgage, you could consider prepaying it by 6 months.  This would save you interest and you wouldn't need to keep cash in your account to cover those payments in an emergency.

This is different than paying down principal.

[Ybserp]

@rn

Sure, there are many things to learn about how to manage money, but you are doing a great job already. (Go you!) Remember no one will be more concerned about your financial success than you.

At this point of having money and deciding what to do next is the one where a lot of unscrupulous finance industry people want to start taking chunks of your savings. You've worked to earn what you have. Don't give it up.

You've already done the hard part. You can easily do the next bit to choose an investment style that suits your needs and to continue to grow your money.

Have you thought about what your financial goals are? Financial independence at age XX with $XXk per year to live on? Or maybe $XXk per year in retirement after age 65? Paid off home? Building a nest egg to start a charitable foundation? What do you dream of using your money to do?

[Petunia 100]

If you have a mortgage, you could consider prepaying it by 6 months.  This would save you interest and you wouldn't need to keep cash in your account to cover those payments in an emergency.

This is different than paying down principal.

This would not save any interest.

[NorCal]

If you have a mortgage, you could consider prepaying it by 6 months.  This would save you interest and you wouldn't need to keep cash in your account to cover those payments in an emergency.

This is different than paying down principal.

This would not save any interest.

It was always my understanding that you would not be paying interest on the prepaid amount.  As a renter, I have not read any actual contract language though.  I would be interested if people have any actual experience with this.  Obviously do some due diligence on this.

[Primm]

If you have a mortgage, you could consider prepaying it by 6 months.  This would save you interest and you wouldn't need to keep cash in your account to cover those payments in an emergency.

This is different than paying down principal.

This would not save any interest.

It was always my understanding that you would not be paying interest on the prepaid amount.  As a renter, I have not read any actual contract language though.  I would be interested if people have any actual experience with this.  Obviously do some due diligence on this.

I think it depends on where you live.

In Australia mortgages operate the way you said. You prepay an amount, and that amount is taken off the principle so you would no longer pay interest on that amount. Most mortgages then allow you to redraw the extra if you need it in the future as well.

I understand mortgages in the US work differently though. So yes, due diligence needed.

[Petunia 100]

If you have a mortgage, you could consider prepaying it by 6 months.  This would save you interest and you wouldn't need to keep cash in your account to cover those payments in an emergency.

This is different than paying down principal.

This would not save any interest.

It was always my understanding that you would not be paying interest on the prepaid amount.  As a renter, I have not read any actual contract language though.  I would be interested if people have any actual experience with this.  Obviously do some due diligence on this.

To save interest on a prepaid amount, it must be applied to principal.   If I make October's payment right now and specify that it be applied to principal,  when Oct 1 rolls around, I owe another full payment.

This is how it works in America.   I have no idea how it works in Australia.

[Primm]

Not like that!

Any extra paid is automatically taken off the outstanding balance. So my mortgage is $255,000. My monthly repayments are $1,300. I pay an extra $5,000 which brings my balance down to $250,000, but my monthly repayment is still $1,300. However I now pay interest on $250,000 instead of $255,000. And I can take out the extra $5,000 whenever I need it.

[Schaefer Light]

I have a general question along the sames lines as the original posters'.  Where is the best place to put an emergency fund if you want to keep it in an easily accessible account (i.e. not invested in stocks, ETFs, or mutual funds)?  I guess what I'm really asking is which banks have the best interest rates on checking / savings accounts?  Ally seems to have a decent rate, but I don't know what else is out there.

[Ybserp]

Here you go: http://www.bankrate.com/checking.aspx

Currently, MySavingsDirect.com has the highest savings account APY at 1.05%. Ally.com is at 0.90% with roughly ten other banks offering the same or better APY.

[Schaefer Light]

Thanks for the link ^.

[foobar]

I have a general question along the sames lines as the original posters'.  Where is the best place to put an emergency fund if you want to keep it in an easily accessible account (i.e. not invested in stocks, ETFs, or mutual funds)?  I guess what I'm really asking is which banks have the best interest rates on checking / savings accounts?  Ally seems to have a decent rate, but I don't know what else is out there.

Keep it simple. Just shove that money in your bond fund and call it day. You can get access to that money in about 72 hours. If you need money quicker than that, use your credit card.

[JoanOfSnark]

Is that something you would also recommend if your short-to-medium-term goal were to buy a house? Right now my emergency/house fund are all kind of hanging out in cash in a savings account because I'm looking to buy a place probably within the next 5 years.

Bonus question: what exactly is a bond fund, and does anyone have recommendations of ones that can be bought in Euro?