Cash Solutions: Where to Stash Your Extra Cash
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Uncover four alternatives to help put your cash to work for you

From the Merrill Edge Minute e-newsletter.

Key Points

  • Following a "savings hierarchy" may help you to prioritize where your cash should go.
  • Building up an emergency fund that can cover at least six months of your expenses is a good strategic use of your cash.
  • Paying off costly credit card debt, contributing to tax-advantaged accounts or investing in fixed-income investments might yield returns.
Periodically, you may have a substantial amount of cash - perhaps you received a tax refund or you're putting cash aside for a down payment on a home. But how can you make sure you're using that extra money wisely? There are ways to put your cash to work that go beyond traditional cash management vehicles.
One approach could be a good mix of traditional and often-overlooked strategies that are likely to vary according to your age and circumstances. If you're nearing retirement, you'll probably use cash differently than if you're 30 and about to become a parent, notes Christopher Vale, senior vice president, Merrill Edge Product and Strategy.
"You need to consider all of your goals and choose a strategy that helps you move toward them," says Vale.
He suggests following a "savings hierarchy," illustrated in the chart below, to help prioritize where your cash should go. In most cases, you'll need to pursue multiple goals at once rather than going down the hierarchy, completing each goal before moving on to the next.
Starting early can help you save more for retirement
1. Pay down debt
You could use your cash to pay off high-interest non-tax-deductible debt, such as an expensive credit card. Next, look at other non-tax-deductible debt, such as a student loan. Finally, consider paying down deductible debt, such as the closing costs of refinancing a mortgage. "Refinancing a mortgage could save thousands of dollars a year," says Nevenka Vrdoljak, director of Portfolio Analytics, Merrill Lynch. "And paying off a credit card that charges 15% interest is the economic equivalent of earning a 15% investment return if you don't replace that with new debt."
2. Plan for contingencies
An important use of your cash is to purchase insurance, Vale adds. Life insurance can help protect dependents, and health insurance assists in safeguarding against the expense of accidents and long-term illness, which can cause a significant drain on retirement savings if there are no other sources to draw from.
Building up an emergency fund is another strategic use of your cash, says Vale. It can provide backup cash to draw upon if you lose your job, get a surprise tax bill or have to deal with another unanticipated expense. The financial crisis exposed vulnerabilities in households that hadn't saved a sufficient cushion, he notes.
3. Invest for retirement
Investing for your future needs could give you the opportunity for an added return and provide the potential for reduced taxes. For example, if you have a workplace 401(k) plan, your employer may match a certain percent of your contributions. Try to invest at least enough to get any match. If your company will match your contribution of up to 3% of earnings then it makes sense to try to put in at least 3%. "That's an immediate 100% return on the amount you initially contributed," Vale notes. If you don't have a workplace plan you can invest in a traditional IRA, which offers a tax deduction, or a Roth IRA for future federally tax-free withdrawals. The Merrill Edge® IRA Selector Tool can help you choose the type of IRA that may be right for you.
4. Save for other goals
  • Tackle near-term savings needs. If you don't yet own a home, extra cash could go toward a down payment, or you might put something away to fund your next vacation. The earlier you start, the more you'll be able to put away for the future.
  • bodychartstartingearly
    Source: ChartSource®, DST Systems, Inc. This example is hypothetical and does not represent the performance of a particular investment. Your results will vary. Actual investing includes fees and other expenses that may result in lower returns than this hypothetical example.
  • Start investing for a child's education. You might consider setting up a 529 College Investing Plan. With 529 plans, you pay income tax on the money you put in, but you don't pay taxes on your earnings in the account, or when you take them out to pay for qualified college expenses.
For cash needs, such as an emergency fund, or important short-term goals, you want to make sure your cash is not at risk of losing value and falling short of your requirements. Plus, you'll also want to ensure you have access to your money when you need it. Consider a lower-yielding but FDIC-insured bank account, such as a savings account, a money market account or a certificate of deposit. If your needs are for daily cash, consider using traditional checking or cash management accounts.
Using extra cash to invest in fixed income
You might also consider stretching for the potential of higher yields by putting some of your money into bonds or other longer-term fixed-income holdings. Yet that could be a tricky proposition if interest rates are moving higher. When that happens, the value of existing holdings tends to fall as investors move toward new bonds that may pay higher rates.
To avoid this problem, you might want to consider shorter maturities, or use a laddering strategy that gives you the flexibility to reinvest for potentially better yields. It's also a good idea to consider your risk tolerance, time horizon, liquidity needs and asset allocation.1 Merrill Edge® offers the Asset Allocator™ Tool to help simplify the process.
"Keep tabs on your situation," Vrdoljak says. "It's important to reassess your progress on an ongoing basis," she adds. "Throughout your life, as your individual circumstances change, the amount of cash you should have on hand will change as well. Your risk tolerance, investment time horizon, liquidity needs and the types of investments you make will also change. But keep in mind that even when interest rates are low, there are plenty of ways to put cash to good use."

Next Steps

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1 Asset allocation does not assure a profit or protect against a loss in declining markets.

All guarantees and benefits of an insurance policy are backed by the claims-paying ability of the issuing insurance company. All annuity contract and rider guarantees, or annuity payout rates, are backed by the claims paying ability of the issuing insurance company. They are not backed by Merrill Lynch or its affiliates, nor do Merrill Lynch or its affiliates make any representations or guarantees regarding the claims-paying ability of the issuing insurance company.