25.2 C
New York
Saturday, July 13, 2024

Super savers: How much is too much to put in a savings account?

Must read

Saving money and having an emergency fund can provide security and help manage unexpected expenses, particularly during uncertain times. However, storing excessive amounts of cash in a low-interest savings account may not be the most effective personal finance approach. It is possible to accumulate too much money without earning any significant interest.

The drawback of too much in savings

A liquid savings account is a secure place to store money that can be easily accessed. The Federal Deposit Insurance Corp. provides insurance, which covers up to $250,000 per person, per account type at an FDIC-insured bank, ensuring that your savings are safeguarded by the government in case your bank fails.

If you have more money than the $250,000 insurance threshold in your savings account, the risk is mainly about missed opportunities. You won’t be able to earn as much interest on your spare cash if you keep it in an account that generates low interest.

As of January 26, 2023, the average savings account has an annual percentage yield (APY) of only 0.24 percent based on data. But don’t worry; you don’t have to settle for such a low yield. Currently, there are high-yield savings accounts available that offer an APY of 4 percent or even higher.

While savings accounts have low risk, there are other deposit products that offer higher yields. CDs are better suited for saving for specific goals that you have set for a specific time frame. For example, you can find one-year CDs with an APY of over 5 percent. However, if you need to access your money before the term ends, CDs are not the best option because you will incur an early withdrawal penalty.

Money market accounts offer comparable interest rates to the best savings accounts, and unlike CDs, you can withdraw money from them at any time without incurring a fee.

A suggestion to maximize your extra money’s growth and income potential is to invest it in mutual funds, bonds, stocks, or ETFs instead of keeping it in a savings account. Keep in mind that these investment options come with higher risks but may provide higher rewards.

Calculate the right savings threshold

Before investing your money in a taxable brokerage account or an IRA, ensure that you first reach the threshold of your emergency savings fund. Determine the amount of money you want to set aside for emergencies, and make sure you reach that balance in your savings account.

Starting with small savings goals such as $500 or $1,000 can be beneficial if you don’t have an emergency fund yet. You can gradually increase your savings goals over time.

According to financial educator Angel Radcliffe, having at least three months’ worth of living expenses in your emergency fund is advisable. However, she recommends saving six months’ worth. For example, if your monthly bills amount to $3,000, you should save between $9,000 and $18,000 before considering investing any additional funds in higher-yield investments.

According to financial coach and writer Katie Oelker, it is important to maintain a savings cushion to cover unexpected expenses like car repairs or medical bills. This cushion can also help in case of a job loss by providing a cash reserve. The ideal amount to save in an emergency fund depends on your risk tolerance and personal situation.

According to Oelker, once you have saved enough to cover three months of expenses, consider how much more you would feel secure with. Would it be six months, nine months, or twelve months? This answer depends on your comfort level with the possibility of losing income and how much time you think your emergency fund would need to last.

If you and your partner both have jobs, you may need a smaller emergency fund since you can rely on their income if you lose your job. However, if you are the only one earning money for your household, it may be better to have a bigger emergency fund.

Maximize your emergency fund

After establishing your emergency fund, aim to earn a high rate of return on the money while keeping it safe. According to financial educator Radcliffe, if you want easy access to your savings for emergencies, saving in a personal savings account is unnecessary. Rather, you may consider shifting your savings to a high-interest savings account to boost your yield.

If you’re searching for accounts with higher yields, it’s advisable to check out online banks first. They frequently provide the most attractive rates for savings accounts, and it’s possible that they may not require minimum balances or monthly fees.

Determine your financial goals

The amount of money you save in lower-yielding deposit accounts versus higher-growth investments such as stocks can depend on your financial goals.

If you plan on making a big purchase like buying a house or a car soon, it’s wise to have a substantial sum of money saved in a savings account or CD. Investing your money in the stock market to save for a down payment is not recommended since you risk losing money if the market suddenly drops when you start looking for a house.

Investing can be a good option if you have long-term goals such as retirement savings. Oelker, a financial coach, suggests investing in tax-advantaged retirement accounts after setting up an emergency fund.

According to Oelker, once you achieve your financial target, consider investing additional savings by increasing your contributions to an employer-sponsored plan such as a 401k or 403b or funding a Roth or traditional IRA. Each dollar that you invest will accumulate, and if you start adding to your investment accounts earlier, your money will work harder for you.

Bottom line

If you have a lot of money saved up beyond what you need for emergencies, keeping it all in a savings account might not be the best choice. Instead, you could consider moving some of your savings into FDIC-insured CDs or money market accounts or investing in stocks, bonds, or mutual funds, which could potentially earn you higher returns. It’s important to make sure you have enough savings for emergencies and short-term goals before considering other options.

More articles

Latest article