I find myself having the same conversation over and over on cash flow management and the most strategic way to set-up you checking and savings to maximize the outcomes. That being said, I am excited to present to you all my “pyramid” approach to cash management. I’ve been using this method for the past few years and share this strategy whenever the topic of emergency funds and cash management arises.
I am a very visual person and have found over the years that I retain information the best and can explain things best with a visual aid. Without further ado, I present to you my emergency fund (upside down) pyramid.
The entirety of the upside-down pyramid represents that balance of an emergency fund. Like our old friend, the food pyramid, it’s laid out to represent the size of each account in relation to the other. If you are looking at this and scratching your head, here are the biggest takeaways:
- Your Emergency Fund can exist in more than one account. It’s the sum of the accounts that is most important.
- You should aim to keep the least amount of cash in the accounts earning the least amount of interest.
- Start with filling the bottom account and work your way up.
- Open a high yield savings account and start using it!
The Basics
Your upside down, emergency fund pyramid should equal the full amount of your emergency fund. If you need a quick refresher on emergency funds and why there are so important, I’d encourage you to re-read my previous post on the topic. At the highest level, an emergency fund should be equal to 3-6 months of essential living expenses. Not sure if you should be closer to the 3 or 6 month mark? Again, I’ll direct you back to this post on emergency funds to help you answer that question.
Filling Each Account
Determining how much should go into each bucket is less of a science and will be more tailored to the person’s financial situation and account minimums. As an example, I keep the bare minimum in my checking account. As a Chase user (not a recommendation, just a fact), this minimum amount is $1,500 so I keep around $1,500-$1,750 in this account to avoid overdraft charges etc. This number will vary between bank providers.
Going a level up to the savings accounts, connected to my checking, I personally strive to keep 40% of my total emergency fund sitting in this account. In my opinion, it’s important to have a portion of an emergency fund readily available. If these accounts are linked, it’s simple to move funds at a moment’s notice into checking to pay off an unexpected expense. The way I look at it, what you give up in interest rate you get back in liquidity and flexibility. 40% is not an exact figure but a ballpark amount to consider. The key is having a portion of funds that can be easily moved from savings to checking to write checks and cover payments.
Looking at the top of the pyramid is what I will call the high yield savings account (HYSA). I also have a post on the topic of HYSA to familiarize yourself if this is a new term for you. When I originally wrote the post, interest rates were at much higher levels. As we are talking today, the Ally Banks, Marcus and Betterments of the world have interest rates between 0.4%-0.7%. Despite the drop in rates, the interest rates they are giving customers is a multiple of what you might be earning at your local bank accounts. I know that is the case for me. While it’s not a science, my target has always been to fund this account with 50% of the emergency fund.
A benefit to a high yield savings account is that it’s not connected to your traditional checking and savings accounts making it harder to dip into the account, if tempted with a non-emergency situation. The biggest benefit is the higher interest rate. In a high yield environment, your money is working harder for you than it would be sitting at your traditional bank.
Order of Operations
For those of you building out your emergency fund for the first time or making adjustments to this figure, I’d suggest the following funding order:
- Checking Account
- Savings Account
- High Yield Savings Account
When starting out, be sure to focus on filling up the most liquid and flexible cash accounts first and saving the HYSA for last. I say this because some HYSA will take a day to move money between accounts where with traditional bank accounts the money movement is instantaneous. This will prevent any timing issues if you have an immediate expense.
Refilling Checking/Savings
Let’s say you have an unexpected expense. In our case, we recently had a scare with our pup and thought he might need surgery. Thankfully he ended up being okay, but we did have higher vet bills that month. In our case, we pulled money from the savings account to cover the bills. The next month we used our monthly savings to refill the savings account before we directed those dollars towards our sinking funds.
There is no right way to structure your cash accounts but hopefully this post left you with a few ideas to consider. As a recap:
- Your Emergency Fund can exist in more than one account. It’s the sum of the accounts that is most important.
- You should aim to keep the least amount of cash in the accounts earning the least amount of interest.
- Start with filling the bottom account and work your way up.
- Open a high yield savings account and start using it!
