How Much Cash Reserves Should You Hold?

If you do a Google search for “How Much Cash Reserves Should You Hold?” you’ll get a plethora of results. Among those results, you’ll find opinions from every corner of the internet on how much you should hold in cash reserves. Dean Barber and Chris Rett, CFP®, AIF®, decided to review some of them on America’s Wealth Management Show before sharing their own thoughts. It’s crucial to have cash reserves to secure financial stability, but how much you need depends on your situation.

Dave Ramsey’s Thoughts on Cash Reserves

Dave Ramsey believes that everyone should have at least $1,000 in savings.₁ If you’re debt-free, he recommends having three to six months of expenses in savings.

He believes you should have three months of expenses in savings if you have a stable income and are single with no dependents or if you’re married and you and your partner have stable income. Ramsey says that you should have six months of expenses in savings if you’re a single parent, married with a single income, have a seasonal job, have someone in your household who is chronically ill, or if someone in your household is self-employed or has unstable income.

Money Guy (Brian Preston and Bo Hanson) Thoughts on Cash Reserves

The Money Guy Show Hosts Brian Preston and Bo Hanson think that those who are working should save three to six months of take-home pay in cash reserves.₂ If you’re retired, they believe you should hold one to two years of expenses in cash reserves in case there’s a market downturn.

Chris Rett and Dean Barber’s Thoughts on Cash Reserves

Dean and Chris both think that Dave, Brian, and Bo shared some good guidelines for how much to hold in cash reserves. But again, it truly depends on your unique situation. Chris is in his early 30s and just got married while Dean is in his late 50s and is married with five grown children. They’re not going to have the same amount in cash reserves.

No matter your situation, Chris and Dean strongly believe that you need to have a budget (or as they like to call it, a spending plan) as a starting point. As a part of that budget, it’s important to have an emergency fund.

Think about this. You’ll need to pay the deductible if you get into a car accident, have damage to your home, or need to go to the doctor. Those are unexpected expenses that happen more often than people like to think, especially when it comes to healthcare costs. Only having three months of expenses in cash reserves or emergency funds might not be enough if a substantial unexpected expense(s) arise. You need to think about those things when determining how much cash reserves you should hold.

Ways to Think About Cash Reserves

Dean believes you can think about cash reserves in more than one way. You want something that’s safe, easily accessible, has no penalties, and has potential for earnings. That’s your short-term bucket of money. Where should you go for that?

With interest rates remaining in a higher-for-longer cycle, Chris says to consider a high-yield savings account or maybe a low-cost ETF. For example, the ETF BIL owns one-to three-month treasuries. High-yield money market accounts are another option. ₃Whichever option you go with should be liquid so you can easily spend from it, if needed.

However, you may want more liquid money that’s not just set aside for emergency expenses. Maybe you want to save for a down payment on a house. There are other expenses that could come up that you need to make sure you have cash set aside for that you can access quickly. That’s why it can be dangerous to take a simplistic approach when determining the minimum amount that you need in cash reserves.

A Financial Planning Tip for Those Who Are Just Starting to Build Their Cash Reserves

Let’s talk about the importance of cash reserves for people who are just starting their careers and are auto-enrolled in their company’s 401(k) plan. Dean believes that auto-enrolling in your 401(k) is OK in this situation if your company offers a match. View that match as free money. But don’t contribute more than what the match will be if you don’t have your cash reserves in place.

Dean encourages the younger folks out there to set themselves up so that they don’t ever need to take money out of their 401(k) while they’re working. The money in your 401(k) isn’t intended to be your cash reserves or for your future kids’ college funds. That money is for your retirement. Keep in mind that there are also penalties for taking money out of your 401(k) plan prior to the age of 59½.

As you get older, it becomes even more imperative to make sure that you have money saved outside of your 401(k) plan that’s in cash reserves. The short-term emergency fund could be anywhere from three to six months of expenses or 12 to 24 months of expenses. Again, it depends on your personal situation.

Using a Bucket Approach

When it comes to your savings, make sure you’re using a bucket approach. Your cash reserves are going to be your short-term bucket. But as we mentioned earlier, you need to have savings for non-emergency items as well that is allocated in your mid-term and long-term buckets. And it’s not just how much you save that’s important; it’s where you’re saving. Dean also stresses that you need to know the rules of the account you’re putting your money into prior to putting it in.

As an example, let’s say that Dean has $1 million and wants to spend $50,000. That’s 5%. If his portfolio’s optimum allocation is 60/40 (60% equities and 40% fixed income), he would want to have $150,000 in a very safe account that he can spend from over three years. Then, he would want to have about $400,000 in a mid-term bucket that he’ll spend from over the next six or seven years. Dean would prefer to have the remaining $450,000 all in equities. He won’t spend from that bucket, but in years in which those equities are netting above-average returns, he would take some of the profits and put them into his short-term bucket.

That is purely an example of what he would consider doing. Your optimum allocation will depend on your personal financial situation and risk tolerance.

Are You Over-Saving for Retirement?

We also mentioned in a recent episode of America’s Wealth Management Show that some people save too much for retirement and don’t realize it until they start the retirement planning process. There are potential disadvantages of holding too much in cash reserves. While cash reserves may be a safer investment option, they typically generate lower returns than some stocks, bonds, commodities, real estate, and other investment possibilities.

It’s also crucial to understand that investments are just one piece of the puzzle when it comes to wealth management. Taxes, risk management, estate planning, and your nonfinancial goals need to be considered. Download our Retirement Plan Checklist below to gauge your retirement readiness and review several other wealth management considerations.

Cash Reserves

Retirement Plan Checklist

How Much Cash Reserves Should You Hold?

Let’s get back to the question that the title of this article poses, “How much cash reserves should you hold?” Our team looks forward to helping you answer that question. But first, we need to know more about your situation. Start a conversation with us so we can review what we covered in this article and apply it to your unique circumstances.

SEE OUR SCHEDULE

Resources Mentioned in This Article

Downloads

Retirement Plan Checklist

Other Sources

[1] https://www.ramseysolutions.com/banking/how-much-should-i-have-in-savings

[2] https://moneyguy.com/episode/rethink-the-way-you-look-at-cash/

Investment advisory services offered through Modern Wealth Management, Inc., a Registered Investment Adviser.

The views expressed represent the opinion of Modern Wealth Management a Registered Investment Advisor. Information provided is for illustrative purposes only and does not constitute investment, tax, or legal advice. Modern Wealth Management does not accept any liability for the use of the information discussed. Consult with a qualified financial, legal, or tax professional prior to taking any action.