The Wisdom and Foolishness of Saving Money
© Sound Mind Investing | June 2012
When teaching us about saving money, the Bible uses the word "fool" twice. In the first case, we're told it's foolish to save too little: "In the house of the wise are stores of choice food and oil, but a foolish man devours all he has" (Proverbs 21:20).
On the other hand, Luke 12:16-20 tells us it's foolish to save too much:
"Then he told them a story: "A rich man had a fertile farm that produced fine crops. He said to himself, 'What should I do? I don't have room for all my crops.' Then he said, 'I know! I'll tear down my barns and build bigger ones. Then I'll have room enough to store all my wheat and other goods. And I'll sit back and say to myself, My friend, you have enough stored away for years to come. Now take it easy! Eat, drink, and be merry! But God said to him, 'You fool! You will die this very night. Then who will get everything you worked for?'"
For the most part, deciding where the line is drawn between wise saving and foolish hoarding is not a matter of money; it's a matter of the heart. Certainly, in our quest to live as stewards of God's resources, it makes sense to maintain a reserve large enough to handle some of life's tougher financial circumstances, such as an extended period of unemployment.
The key to figuring out how much money you should keep in reserve is knowing what it costs to pay your household's essential expenses each month. If you were to lose your income tomorrow, taking your next vacation or updating your wardrobe probably would not rank very high on your priorities list. But there are certain bills and expenses you'd still need to pay, such as your mortgage, utilities, groceries, and insurance.
If you already have a well-defined monthly spending plan (budget), it should be fairly easy to calculate one month's worth of essential expenses for your household. If you don't already have a budget, use the Cash Flow Plan sheet on SMI's web site. Just fill in the amounts for each category you deem essential and then add it all up.
Financial planners often recommend maintaining an emergency fund large enough to cover three-to-six months' worth of essential living expenses. With the job market still shaky, we recommend erring on the high side. So, take your one-month figure and multiply by six.
As for where to keep such savings, it's wise to keep at least two months' worth of emergency savings in a money-market account or online bank savings account so you can access it quickly if the need arises. For the greatest peace of mind, you might opt to keep all of your emergency savings in such an account. The downside is you won't earn much interest.
To improve on the meager interest rates offered by traditional savings accounts, you might consider putting a few months' worth of emergency savings into a conservative bond investment, such as a short-term bond index fund. But recognize that if you need all your savings at once, you might have to sell your bond funds while prices are down.
Remember, it is the height of foolishness to trust in your savings as the source of your security. However, it's also foolish to think the need for a well-funded emergency fund doesn't apply to you.