In a previous post (see link below), I detailed the reasons why I use online money market savings accounts for my cash saving needs. However, what I didn’t discuss in that post was applications the online money market savings account should be used for.
I use an online money market savings account for the following three purposes:
1) Accumulating cash for the 5% cash portion of my target asset allocation (this was described in a previous post – My Money Blog – Index Funds and Current Asset Allocation)
2) Saving for long term spending
3) An emergency cash fund – “saving for a rainy day” (most important)
Note: In my opinion, even though all three of these accounts are with the same bank (Dollarsavingsdirect.com in my case); I believe it works best to have three separate accounts, one for each use above. It is a lot easier to keep an eye on what is going on this way!
Since No. 1 above was already explained in the Asset Allocation post on My Money Blog, let’s investigate the other two uses.
Saving for Long Term Spending
This is the account that is designated as cash needed for future large purchases. Examples could possibly include house down-payments, cars, boats, a wedding ring, vacation, etc.
The key here is to make sure that the money you dedicate to certain future purchases remains dedicated to those items. For example, you wouldn’t want to save for a house down payment for 10 years, and then spend it all on an expensive trip to Paris one summer. See what I mean?
Emergency Cash Fund
This is, hands down, without a doubt, the single most important use of the online money market account. It is also one of the reasons why I wanted my account to be FDIC insured. As my previous post mentions (My Money Blog – Account Hierarchy Order), having an emergency cash fund is the 2nd highest priority on your financial hierarchy list.
Why do you need an emergency fund?
The purpose of this account is to have enough a safety cushion to cover your monthly living expenses in the event that you lose your job or cannot work due to an injury for an extended period.
How much do you need to put in it?
The most widely excepted answer for how much you need in the account is 6-9 months of living expenses. However, there are possible exceptions to this rule. For example, if you are in graduate school and still receiving monetary support from your parents, you could probably get away with less than the 6 month minimum.
However, no one should under any circumstance have an emergency fund with less than 3 months of expenses in it.
Calculating how much you need for the emergency fund is a fairly simple exercise, provided that you are comfortable tabulating your monthly expenses. They are some really handy dandy calculators out there on the internet for this very purpose. One of my favorite ones can be found at the link below:
Once you have calculated how much money you will need, you can use the calculator at the link below to figure out how long it will take you to save/reach your emergency fund total goal:
There you go! You are on your way to wisely saving cash! That wasn’t so painful was it? Let me know if you all have any questions.
Keep on learning!
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