Setting aside funds for a rainy day is the quintessential Goldilocks dilemma.

Don’t save too much. Don’t save too little. Save just the right amount.

But what is the “right” amount?

Finding Peace of Mind

Sadly, there’s no one formula for calculating the perfectly appointed emergency fund.

The oft-heard rule is to set aside 3 to 6 months’ worth of living expenses. But circumstances can vary from individual to individual.

Those with a steady income, adequate disability insurance, low debt, and no dependents might need to save less than those with variable income, higher fixed expenses, or just one breadwinner in the family.

Then there’s peace of mind. What size rainy day fund allows you to worry less about the money you’ve committed to long-term investments?

The Peril of the Padded Fund

Before amassing a hefty emergency fund, beware the implications of tucking away too much money. Holding significant cash reserves can potentially erode your wealth over the long term.

Yes, you heard that correctly.

The headwind of inflation diminishes the purchasing power of cash sitting idle in a bank or checking account.

If history is any guide, $20,000 invested in a balanced portfolio might grow to $80,000 over 20 years, or $160,000 over 30 years. Left instead to languish in a bank checking account, the purchasing power of that $20,000 is unlikely to ever change. That’s particularly tragic, since many people never touch their emergency funds.

Smart Emergency Fund Moves

To determine what size rainy day fund is right for you, first calculate living expenses. A budget comes in handy here, but don’t feel you need to track every penny.

A simple way to get a handle on your spending is to look at your monthly after-tax income and then ask yourself: How much of that amount am I routinely saving? The delta, of course, is what you’re actually spending.

If you want to dive a little deeper, get a handle on which expenses are necessary versus discretionary.

Mortgage payments, food, healthcare, utilities, and car insurance are necessary; vacations, gym memberships, or Netflix subscriptions may not be.

Do you have significant expenses, like home repairs, on the horizon? Ongoing health concerns that might not be covered by insurance? Do others such as extended family rely on you financially?

Situations like these could warrant some extra “padding” beyond your typical monthly expenditures.

Don’t Forget Your Options

Keep in mind, too, alternative sources of cash.

Do you have a home equity line of credit that can be tapped in a pinch? Are you comfortable using short-term credit card debt? Many Vista clients can also borrow against their taxable accounts using a margin loan.

While not long-term funding sources, these alternatives can serve as emergency sources of cash when really needed.

Finally, if you do plan to hold a large amount of cash, consider a money market fund or online savings bank that can offer modestly better returns than a traditional bank’s checking or savings account.

Set It and Forget It

Once you’ve determined your rainy day fund “sleep at night number,” stick to it.

Transfer surplus cash into an investment account or spend it, but don’t get in the habit of letting it accumulate.

Need help thinking this through? Talk with your team at Vista. We’ll help determine the amount that’s just right for you.