Keep the Bare Minimum In Your Checking Account

Keep the Bare Minimum In Your Checking Account

While many Americans are relying on the next stimulus package, if you’re no longer living paycheck-to-paycheck, it’s time to get that money out of your checking account.

Why? Because although some checking accounts do offer interest these days, your cash will probably earn more money for you in a savings account, a money market account, a CD or a brokerage account.

Right now I try to maintain a checking account balance of $3,000—a number designed to cover a little more than my typical $2,500/month expenses. I also maintain a savings account balance of $10,000; this serves as a four-month emergency fund and provides a buffer against freelance income lulls or late payments.

I have a separate savings account where I stash money to put towards estimated taxes, and every other dollar I earn gets invested—either in my traditional IRA, my SEP IRA, my HSA, or my non-retirement-based brokerage account.

G/O Media may get a commission

As Laura Munoz explains in The Financial Diet, this is a life-changing money move:

[...] once I realized I didn’t need to pay for everything with my debit card, I also realized that money sitting in a debit account just, well, sits there. It doesn’t earn interest and it’s not working for you, so there’s no real reason to keep more than a healthy buffer there in case you need to take out cash in a pinch. Now my cash on hand sits in two places: a high-yield savings account where it earns interest without any risk, and another savings account that’s invested in the stock market, where there’s more risk and reward potential.

Yes, putting your money in the market—even in a money market account—comes with some risk, especially in the context of a pandemic. This is why personal finance experts suggest keeping your emergency fund in cash, not in investments. Since market crashes are often associated with recessions, keeping some of your money in a savings account can help protect you if your investments plummet right before you get laid off, for example.

Keeping your extra money in a checking account can also protect you from a market crash, of course—if that money is still in the checking account when you need it. If you’re the kind of person who uses your checking account balance as a way of determining how much you can spend, you could end up spending everything in the account.

Limiting the amount of money in your checking account makes you more aware of how much you’re spending, and how often you have to transfer money from savings to cover an everyday expense (or pay off a credit card bill). You can easily transfer money from a savings account to a checking account in a pinch, with most banks allowing 6 transfers a month with no fees or penalty. If you’re lucky not to need the money in your savings account, it’s likely to earn about 0.1% interest, depending on your bank—better than the 0.06% of many checking accounts, or earning no interest at all.

So keep the bare minimum in your checking account, no matter how much you’re earning. Think of it like a large-scale version of the envelope system, with your checking account as a giant envelope that contains all of the money you get to spend that month.

Then put the rest of your earnings in a place where they can earn more money for you—because that’s one of the best ways to make your net worth grow.

This article was originally published on July 17, 2019 and updated in July 2020 to reflect the pandemic and provide additional detail on savings accounts.

Source Link