Strapped For Cash
There’s an old adage – cash is king. Except, in today’s low-interest rate environment, cash feels more like the ugly duckling. It’s easy to see why many investors are turning more and more of their cashflow toward more productive sources – investing for retirement, paying down a mortgage, etc.
These are positive endeavors in their own right, but neglecting to maintain some level of cash reserves (a general rule of thumb is at least 3-6 months of living expenses) can leave you unprepared for emergency situations. If your cash has been tied up in one of the following categories, here are some options you might have in a pinch:
You aggressively paid down a mortgage with extra cash – While there’s no doubt it feels great to eliminate debt and right-size your personal balance sheet, doing so ties up more of your net worth in the equity of your home, where it is not easily accessible. In an emergency, this could be mitigated by a Home Equity Line of Credit (HELOC), which allows you to advance some portion of your home equity as an interest-only line of credit. A few words of caution: this works great if you have a HELOC already established, and if you have a reliable stream of income from which to repay the loan in a reasonable timeframe.
You have concentrated savings in a brokerage account – For those who have diverted most of their cashflow to a taxable investment account, it can be doubly disadvantageous to have to pull money out in an emergency, both because of the tax consequences, as well as having to sell the underlying investments at potentially inopportune times. One solution, particularly for larger account sizes, is a Pledged Asset Line of Credit (PAL). Similar to a HELOC, a PAL allows you to borrow against those assets without being forced to sell anything (and trigger capital gains). Once again, a better solution if you have established a PAL prior to an emergency, rather than in response to an emergency.
You have concentrated savings in a retirement account – Some, but not all, 401(k) plans allow for loans against the plan account, which come with their own sets of rules and regulations, but allow the plan participant to avoid taxes and early withdrawal penalties. When it comes to IRA’s, including SEP IRA’s, the account holder has the ability to temporarily withdraw funds penalty-free and tax-free, so long as those funds are returned to the IRA within 60 days. Because of the many regulations surrounding these strategies, we highly caution against them except as a last resort.
If you fall into one of these categories and want to be better prepared, it’s never too late to start building an emergency fund by putting aside extra cash, or reducing expenses if necessary. At the very least, you should have an idea of where you would turn if you needed cash in a hurry.
When it comes to being prepared for emergencies, cash is king. And the king is NOT dead.