Your Most Common Questions, Answered: We Have a Lot of Cash in the Bank, Now What?
As part of my initial meeting process with new clients, I always ask, “Why did you reach out to me today?”
Understanding people’s motivations and primary concerns helps me know what’s most important to them, and it helps guide our planning process. But it also allows me to see how universal some of our questions and concerns around money are.
In asking that question, what I’ve found is some of the same topics come up time and time again. Throughout this year’s blog posts, I’ll address some of these most common pressing questions to share the framework we use to solve these challenges and take advantage of opportunities.
Up first: let’s look at how to deal with having too much cash in the bank.
“We Have a Lot of Cash in the Bank. Now What?”
At first glance, this might not seem like a challenge or issue at all. Who’s complaining about having too much money?
While it’s a good problem to have, it does create a lot of questions that are hard to answer. Once you establish yourself, take care of obvious problems (like repaying credit card debt), and start earning more money, the question becomes, “now what?”
What’s the best thing to do with your money now that you actually have enough of it to make complex decisions around?
Not knowing what to do often leads to people amassing large amounts of cash with zero plans for utilizing it wisely. If you find yourself in this situation, here are some things to keep in mind to help you determine a strategy for the best ways to leverage this money in the bank.
Paying Off All Your Debt Might Not Be the Smartest Move
Commonly, people who have managed to save up a lot of money will start wondering if they should use that cash to repay all their debt — including their mortgage.
It’s natural for people to want to be debt-free and some pundits (see Dave Ramsey) feel getting out of any and all debt, regardless of what it is, is the only way to go.
But we advise people against rushing out to pay off loans like mortgages with low interest rates. While getting rid of high-interest credit card debt is probably in your best interest, hanging on to your mortgage and using your cash to build wealth in other areas could make more sense.
If you have a mortgage that is around a 3.75 percent interest rate, that is historically “cheap” money. Rushing to pay that off requires you to throw your cash into an illiquid asset — and takes away the opportunity to use those dollars on goals like building up your retirement accounts.
Not only that, but avoiding contributing to investments now means losing out on the compounding opportunity that comes with investing for the long-term. If you could be earning 7 percent in a 401(k) or IRA versus having a forced savings rate of 3.75 percent paying down debt, which would you pick?
If you want to build wealth, you may need to focus on building up your assets first rather than funneling all your cash into your house.
Building Up the Right Amount of Emergency Savings
You may have heard that you need to build up a rainy day fund, and that’s good advice. How much should you keep in that emergency fund, though?
The rule of thumb says to build up 3 to 6 months’ worth of expenses and keep that amount in cash in a liquid savings account. But I feel this guideline is much more of an emotional decision than a financial one.
You do need emergency savings. But how much depends on factors specific to your situation. Before determining the precise amount you should keep in reserves, consider things like:
- How risky is your income stream? Is your work vulnerable to seasonality, layoffs, or economic downturns?
- How reliable is the pay you receive: do you get a steady paycheck or does money ebb and flow depending on external factors?
- Do you own any risky or expensive assets, like an older home that needs frequent maintenance and repairs?
- How many people financially rely on you?
I find that, for most people, the “right” answer comes down to a number that provides them with a sense of comfort and security.
For example, does it feel okay to only keep $30,000 in the bank after you’re used to keeping a stash of $100,000? If the answer is, “no,” then don’t feel pressured to reduce your emergency fund to what the rules of thumb suggest is all you need.
If you are going to be up all night worrying, it’s just not worth it. Prudent financial management is not always about getting the highest return. It’s also about being confident in your plan and being comfortable with who you are.
Achieving What Matters Most to You, Now That You Can
Once you establish how much cash you truly need on hand to protect against emergencies and establish an investment plan that puts some of that extra money to work, consider turning to your goals and priorities.
Many of us get so focused on saving that we don’t even realize when we’ve hit the point at which we actually have enough cash available to use on things we’ve always wanted.
If you’re funding your retirement and investment accounts appropriately and managing your ongoing expenses well, actually using some of that cash to achieve your goals is not a bad thing. It might be time to consider taking the trip you’ve been dreaming of, or enrolling in cooking classes, or finally upgrading your 15-year-old car.
Spending money isn’t always the answer — but using your money wisely on things that matter to you or to achieve long-held goals may be a good way to go.
