Are You Smart About Your Emergency Fund?

Are You Smart About Your Emergency Fund?

So you have set up your emergency fund.  Maybe you have even built out your financial buffer

I have a question for you:

Are you maximizing the returns on your emergency fund? 

If you have a stable job and career, there is no reason not to invest your emergency fund assets in a certificate of deposit (CD) to juice the returns a bit and give yourself a nice little boost.  (Obviously, you would keep enough in a regular savings or checking account to cover your day-to-day living expenses.)

What Are The Odds You'll Need To Access Your Emergency Fund In The Next Year?

People have this irrational worry about putting their money into a CD because the funds are "tied up" for the length of the CD.  But have you thought this through?  In the worst case scenario, if you have to access the money in the CD before it comes due, all you forfeit is the interest. 

So here's the risk/reward logic.  A very low likelihood you will need to cash out the CD early vs. locking in substantially higher returns year after year after year after year.

Alliant Credit Union Savings Account vs. CIT Bank Certificate Of Deposit

Let me give you an example.  I bank with Alliant Credit Union.  Great online bank.  (BTW, Alliant's cash back credit card might be the best in the United States.  Why haven't you heard of it?  Other bloggers don't mention this card because they can't earn an affiliate commission if they recommend it.  Take our free Credit Card Madness Course to learn more.)  Anyway, Alliant provides a pretty decent savings account yields.  Right now you will earn a 1.70% yield on the savings.

But I know that I will never let my savings drop below $25,000.  I probably should, but I'm just a risk-averse dude.  I like having lots of cash.  

In contrast, CIT Bank offers a CD currently yielding 2.5%.  So a CIT CD yields 2.5% and an Alliant Savings Account yields 1.7%.  The difference is .08 percent. For every $100,000, that’s an extra $800 per year in your pocket (not factoring in taxes). This extra return involves tying up your money in a 12 month CD.  Say you decide that your emergency fund and financial buffer will never drop below $50,000.  That would earn you an extra $400 per year for doing nothing but filling out a form and transferring the money.  In 10 years, that would be an extra $4,000 in interest income. In 20 years, that's $8,000.  Not bad.

If you are concerned that you don't know either of these banks, let me point out that these assets are insured by the United States government up to $250,000.  So this is a riskless investment regardless of the bank (assuming the bank is FDIC insured).

Reality Check About Certificates Of Deposit

Caveat #1 - Be careful about jumping from bank to bank too often if you only make an extra $50 per year from the transaction.  The time spent filling out the paperwork and then dealing with tax paperwork may not be worth it.  But a single, discrete move that will make you $4,000 over ten years is definitely worth your time.

Caveat #2 - If it is very likely you will need to dip into these funds for some reason in the next 12 months, obviously don't put your money in a certificate of deposit.

Caveat #3 - CIT Bank is the best deal as of the summer of 2018.  But always check when you read this to see if there are better deals when you read this article. 

Caveat #4 - As of mid-2018, we are in a rising interest rate environment.  You may not want to commit to anything more than a 12 month CD since rates may tick up more in the next year and you will miss out on the higher rates if you buy a longer duration CD.

Little Tweaks = Huge Returns Over Time

Ensuring you maximize the returns on your emergency fund is a great example of deploying money math to make yourself wealthy over time. 

So what about you?  Are you being smart about your emergency fund? 

(Hat tip to Financial Samurai for highlighting the CIT Bank CD deal.)