Where To Keep Cash You Need Within Two Years

We had the deposit for an apartment sitting in a brokerage account in an index fund, because leaving $40,000 in cash felt like the kind of thing an unserious person does. Our target was about a year and a half out.

Then I did the arithmetic on a bad quarter. A 15% drop on $40,000 leaves $34,000, and the $6,000 gap does not care that the closing date is in April.

The deposit is a fixed number. The account is not.

We moved it the next week.

The real question is not the rate

All three of the sensible places to keep short-dated cash tend to pay broadly similar rates at any given moment, because they are all competing against the same short-term government yields. The spread between them is usually measured in fractions of a percent, and it changes constantly.

What does not change is how hard it is to get your money back on a Tuesday. That is the variable worth choosing on.

The savings account

A savings account is the one that never surprises you. The rate floats, so it can fall the week after you open it, and in exchange the money is available the moment you want it.

Say the account pays 4%. On $40,000 that is $1,600 a year, or about $133 a month, and you can take all of it out on a Sunday night with no permission from anyone. For a deposit whose date might slip, that flexibility is the entire product.

The CD

A certificate of deposit is a deposit you promise to leave alone for a set term, and in return the bank fixes the rate for the whole term. If rates fall three months in, yours does not.

Breaking it early is allowed at almost every bank, and it costs you a penalty that is typically quoted as a number of months of interest. On a twelve month CD at 4%, a three month interest penalty on $40,000 is $400, which is a quarter of the year's earnings and nothing like a catastrophe.

The trap is not the penalty. It is a maturity date that lands after the date you need the money, which turns a fixed rate into a fixed problem.

The Treasury bill

A Treasury bill is short-term debt issued by the US government, with a maturity of a year or less. You buy it for less than its face value and get the face value at maturity, and the difference is your interest. Buy a bill for $9,800 that pays $10,000 in six months and you earned $200.

You can buy them directly at TreasuryDirect or through a regular brokerage account, and a brokerage is easier because selling early means finding a buyer, and the brokerage has one. Selling early is where the risk sits: you get the market price that day, and if rates have risen since you bought, that price is lower than you paid.

The offsetting advantage is tax. Treasury interest is exempt from state and local income tax. On $1,600 of interest, a 6% state income tax rate is $96 you do not pay, which is real money for a form you do not have to fill in.

The fourth option people forget

A money market fund is a mutual fund that holds very short-dated debt, often Treasury bills and similar instruments, and it lives inside a brokerage account rather than a bank.

It is convenient, it usually pays close to short-term government yields, and the money is generally available in a day or two. The thing to understand is that it is a security and not a deposit, so there is no FDIC coverage behind it. Government money market funds are regarded as very safe, and safe is not the same word as insured.

Some versions hold mostly Treasury debt and pass through the same state tax exemption a bill does. Some do not. The fund page tells you which, and checking takes about ninety seconds.

The one that gets skipped

You can ladder. Buy or open three of them with staggered maturities, say six, twelve and eighteen months, and one piece comes free every six months whatever happens to rates in between.

A ladder gets you most of the fixed-rate advantage without betting the entire balance on a single date. It also means that if the closing slips by a month, only a third of the money is locked.

What actually goes wrong

The date moves. Closings slip, offers fall through, the thing you were saving for arrives three months early or nine months late, and every fixed term you picked was picked against a date that turned out to be a guess.

That is the argument for keeping more of it liquid than the rate table alone would suggest. Say you split $40,000 into $15,000 in savings and $25,000 in a twelve month CD. If the date jumps forward by four months you break the CD, give up roughly $250 of interest, and get on with it.

Now say the whole $40,000 went into an eighteen month CD at a bank whose penalty is six months of interest. Breaking that one costs around $800, and a scheduling problem has turned into a bill.

Ask what the early withdrawal penalty is before you open anything, in months of interest, and write the number down. It is disclosed, it varies a lot between banks, and almost nobody asks.

Go find whatever short-dated money you currently have sitting in a brokerage account in something that moves. Look at the date you need it, then look at what a 15% quarter would do to the number. If those two facts are uncomfortable together, the fix is a transfer, not a forecast.