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Laddering your emergency fund

It's easy to do with CDs, but it may require some planning.

By Karen Datko Oct 7, 2009 3:05AM

This post comes from partner blog Blueprint for Financial Prosperity.

Plenty of articles discuss the importance of emergency funds and how to set one up, so this is not going to be one of those. I assume that you already understand all that good stuff. (If not, check out these great articles at a Money Blog Network writing project.)

Here I'll discuss a strategy to maximize your emergency fund's interest earnings so you can lessen the pain of not having the funds in an investment account.

The strategy is quite simple and works on the assumption that you are using the emergency fund to cover month-to-month expenses and not an enormous cost that is in the multiples of a month, though it can handle that too.

The strategy

Ladder certificates of deposit so that you can maximize your interest earnings, minimize risk, and still have access to your funds when you need them. To ladder CDs, you purchase CDs for the amount of each month of savings but with different maturity periods, so that one CD matures each month.

I'll use a real-life example with ING Direct CDs to illustrate this. (I'd shop around for rates, but I picked ING because it makes opening a CD a cinch.) Also, for the sake of simplicity, let's say you've saved up 13 months of savings of $13,000 total, which means 12 months will constantly be cycled into laddered CDs, with one month sitting in a high-yield online savings account.

Month One. You'll see that ING offers six-month, nine-month, and 12-month CDs. You actually need CDs that mature in one month, two months, three months, etc., but that's not available. The solution is to buy one six-month CD, one nine-month CD, and one 12-month CD. This sets you up to have three of your 12 months covered.

Month Two. Next month, purchase another six-, nine- and 12-month CD. This sets you up to have half of the 12 months covered since the first set of 6-9-12 has now become 5-8-11. This puts your six CDs maturing in five, six, eight, nine, 11 and 12 months, and your on-hand cash can cover seven months of expenses.

Month Three. Are you starting to see a pattern? Buying another 6-9-12 puts your total collection of nine CDs at maturity dates of four, five, six, seven, eight, nine, 10, 11 and 12 months. At this point you also still have four months of cash sitting in your account.

Month Four. Now the pattern changes. Add an additional 12-month CD. This leaves you with three months of cash on hand and CDs maturing in three to 12 months.

Month Five. Add another 12-month CD to bring your full collection to 2-3-4-5-6-7-8-9-10-11-12, leaving you with two months of cash on hand.

Month Six. Add another 12-month CD, and now you have a fully laddered 12-month CD structure in place. You still have one month of cash on hand.

Month Seven. The first of your CDs has now matured and you'll roll that into a new 12-month CD so that you have the full collection and still have a month's worth of expenses in cash on hand. You will repeat this over and over and over.


The primary weakness of this strategy is that you only have a month's worth of expenses on hand. This lets you weather emergencies equal to or less than a month's expenses and those that have recurring costs, like job loss. If you lose your job, you're fine with this strategy because you'll have access each month to another month's worth of expenses as a CD matures.

One mitigating factor about emergencies with a large cost: You can usually cancel your CD early and surrender the interest you would've earned, so laddering may be OK in that situation.

What if your bank doesn't offer CDs that mature in less than a year? Buy one 12-month CD a month for a full year and you can have the same laddering.

Other articles of interest at Blueprint for Financial Prosperity:

Published May 20, 2008



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