Putting aside money for an emergency is a good idea, but for an emergency fund to be fully accessible, it needs to be in a liquid asset. Liquid assets, like money markets and CDs receive low interest. So why is putting money aside that won’t grow a good investment?
Reasons not to invest your emergency fund
The money you put aside for emergencies should be enough to cover several months of fixed income. The size of your emergency fund should reflect your risk comfort level. Financial advisors use three to six months of essential living expenses as the benchmark, and sometimes as much as twelve months, depending on the client.
Moving your emergency fund money into investment vehicles that yield a higher return involves greater risk, and you can’t afford to take a risk with this money, because it has to be there in full, if and when needed.
Your emergency fund needs to be liquid, so it can be accessed instantly, without penalties. If it is invested in a risky investment, then its real value might drop. If it is in an illiquid investment, you may not be able to sell it when faced with a bill. You want your emergency fund to be there if the time comes when you need it. Remember, emergencies don’t wait for a bull market.
Review your personal life and work situation. Someone who works in an unstable industry such as construction, where layoffs are common, or on a commission-based salary, may need a larger emergency fund. Likewise, a single person may face fewer emergencies than a family with many children, and his fund may not need to be as large.
If you find yourself jumping from one emergency to another, keeping your emergency fund topped up in a safe, easily accessible investment vehicle is an important insurance policy against having to withdraw from your retirement fund or sell out other investments.
For more about having an emergency fund, read this.
Douglas Goldstein, CFP®, is the Director of Profile Investment Service, Ltd., which specializes in helping people who live in Israel with their US dollar assets and American investment and retirement accounts. He helps olim meet their financial goals through asset allocation, financial planning, and using money managers.
Published December 22, 2014.