How Much Cash Should I Keep In The Bank?
Everybody has an opinion on how much money you should tuck away in your bank account. The truth is, it depends on your financial situation.
The money you leave in a bank should not be the money you are investing for retirement or your children's college education. It probably shouldn't even be the money you may be putting aside for a down payment to buy your first home or to trade up to a larger one. What you need to keep in the bank is the money for your regular bills, your discretionary spending and the portion of your savings that constitutes your emergency fund.
Everything starts with your budget. If you don’t budget correctly, you may not have anything to keep in your bank account. Don't have a budget? Now's the time to build one. Some thoughts on how:
The 50/30/20 Rule
First let’s look at the ever-popular 50/30/20 rule. Instead of trying to follow a complicated, crazy-number-of-lines budget, you can think of your money as sitting in three buckets.
Costs that Don’t Change (Fixed): 50%
It would be nice if you didn’t have monthly bills but the electricity bill cometh, just like the water, Internet, car, and mortgage or rent bills. Assuming you’ve evaluated how these costs fit into your budget and decided they are musts, there’s not much you can do other than pay them.
Fixed costs should eat up around 50% of your monthly budget.
Discretionary Money: 30%
This is the bucket where anything (within reason) goes. It’s your money to use on wants, instead of needs. Interestingly, most planners include food in this bucket because of there's so much choice in how you handle this expense: You could eat at a restaurant or eat at home; you could buy generic or name brand, or you could purchase a cheap can of soup or a bunch of organic ingredients and make your own.
This bucket also includes a movie, buying a new tablet or contributing to charity. You decide. The general rule is 30% of your income, but many financial gurus will argue that 30% is much too high.
Financial Goals: 20%
If you’re not aggressively saving for the future – maybe funding an IRA, a 529 plan if you have kids, and, of course, contributing to a 401(k) or other retirement plan, if possible – you’re setting yourself up for hard times ahead. This is where the final 20% of your monthly income should go. If you don't have an emergency fund (see below), most of this 20%
should go first to create one.
Another Budget Strategy
Financial guru Dave Ramsey has a different take on how you should carve up your cash. His recommended allocations look something like this (expressed as a percentage of your take-home pay):
Charitable Giving: 10%-15%
About That Emergency Fund
Beyond your monthly living expenses and discretionary money, the major portion of the cash reserves in your bank account should consist of your emergency fund. The money for that fund should come from the portion of your budget devoted to savings – whether it's from the 20% of 50/30/20 or from Ramsey's 10% to 15%.
How much do you need? Everybody has a different opinion. Most financial experts end up suggesting you need a cash stash equal to six months of expenses: If you need $5,000 to survive, save $30,000.
Well-respected personal finance guru Suze Orman advises an eight-month emergency fund because that’s about how long it takes the average person to find a job. Other experts say three months, while some say none at all if you have little debt, already have a lot of money saved in liquid investments and have quality insurance.
Should that fund really be in the bank? Some of those same experts will advise you to keep your five-figure emergency fund in an investment account with relatively safe allocations to earn more than the paltry interest you will receive in a savings account. The main issue is that the money be instantly accessible if needed. (On the other side, remember that money in a bank account is FDIC insured .) For more advice, see Building An Emergency Fund .
If you don’t have an emergency fund, you should probably create one before putting your Financial Goals/Savings money toward retirement or other goals. Aim for building the fund to three months of expenses, then splitting your savings between your savings account and investing until you have six to eight months tucked away. After that, your savings should go into retirement and other goals – invested in something that earns more than a bank account.
The Bottom Line
One study found that around three-quarters of Americans are living paycheck to paycheck. That doesn’t leave much room for saving. Most financial gurus would probably agree that if you start saving something, that’s a great first step. Plan to raise that amount over time. And if you don't yet have a budget, start with our tutorial Budgeting Basics .Source: www.investopedia.com
Category: Personal Finance