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If you have a money market account, or are keeping extra cash in money market funds in your brokerage cash management account, you're not alone. Money market funds recently reached a new all-time high of $6.46 trillion, according to Bloomberg. Money market accounts are slightly different from money market funds, but both invest in similar types of short-term assets and deliver similar yields on cash.
There are many good reasons to keep your cash in a money market account. These accounts are low-risk and highly liquid, and those offered by reputable banks come with FDIC insurance. And your cash might earn a higher APY than the best CDs or savings accounts -- as of this writing, some of the best money market accounts were offering 4.80%-5.20% APY.
But there's such a thing as holding too much cash. If you're feeling too risk-averse, or making money moves based on short-term fear instead of long-term planning, your money market account balance might be holding you back.
Let's look at a few warning signs of too much money in your money market account.
1. You already have a healthy emergency savings fund
A classic rule of thumb in personal finance is that you should have three to six months' worth of expenses in an emergency fund. For many people, that might mean keeping $15,000 to $30,000 in cash -- in a safe, liquid, easy to access savings account or money market account (not a CD).
But if you have already built up more than "enough" for your emergency savings fund, you might be missing out on better investment opportunities by keeping too much cash in a money market account. You might want to think about investing some of that extra cash in different assets, like diversified stock or bond ETFs, that have potential for higher growth.
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2. You're not maxing out your IRA
Another sign you're holding too much cash is that you're not taking advantage of a tax-deductible traditional IRA or making after-tax contributions to a Roth IRA. For 2024, people under age 50 can contribute up to $7,000 (combined) to a traditional IRA and Roth IRA.
The tax benefits you get from maxing out your IRA could be worth a lot more than the APY on your money market account. Here's why.
If you put money into a traditional IRA, you can get a tax deduction for some or all of that amount based on your income. For example, if you're in the 22% tax bracket and you put $7,000 into a traditional IRA, this will cut your tax bill by about $1,540. That's better than the $350 you could earn with 5% APY on $7,000 in one year.
Roth IRA: Tax-free withdrawals in retirement
Not everyone can use a Roth IRA (those with a higher income face restrictions), and a Roth IRA won't give you an upfront tax deduction for the money you put in. But if your income and filing status qualify you to put money into a Roth IRA, your money can grow tax-free and give you tax-free withdrawals in retirement.
Are you already maxing out your IRA accounts? If so, feel free to keep extra cash in a money market account. If not, you might want to move more cash from your money market account into a traditional IRA or Roth IRA (based on which type of account you qualify for, and which tax benefits you prefer).
3. You're not investing appropriately for your long-term goals
If you find yourself hoarding too much cash in safe but relatively low-yield cash accounts like a money market account, take a step back. Ask yourself:
- How does this cash fit into my overall financial plans?
- Am I saving enough money for retirement?
- Am I getting the full employer match for my 401(k)?
- Am I investing in a diversified mix of stocks, bonds, and other assets in a way that is appropriate for my time horizon?
Sometimes people hold too much cash because they're afraid of short-term risks. They're afraid of losing their job, so they want to have a bigger-than-necessary emergency fund. They're afraid of losing money to short-term ups and downs in the stock market, so instead of buying stocks in an appropriate way as part of a long-term strategy, they leave their money in cash.
Keeping too much money in cash can cause you to end up "timing the market" in a self-defeating way -- and gradually miss out on long-term returns to help build wealth.
Bottom line
If you already have an adequate emergency fund, if you're not maxing out your tax-advantaged retirement savings accounts, you might want to move some cash from your money market account to investments. Holding too much cash might feel good in the short term, but it can undermine your ability to grow your money with long-term investments.
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