Guide to personal liquidity

Craig Shively
Wealth Paraplanner

A strong financial plan isn't just about growing your wealth—it's also about making sure you can access your money when you need it. This is where personal liquidity comes into play.

Here's what you need to know about managing liquidity.

What is liquidity?

Liquidity refers to how quickly you can access your money when you need it. It's not just about how much you've saved—it's also about how easily you can turn your savings or other assets into cash without paying high fees or losing value.

Maintaining strong financial liquidity can help you:

• Handle emergency expenses like medical bills and urgent home repairs
• Cover day-to-day expenses during periods of income disruption or job loss
• Avoid selling investments at an unfavorable time to raise cash
• Take advantage of financial opportunities when they arise
• Create greater financial flexibility and peace of mind

While access to cash is important, holding too much money in highly liquid, low-yield accounts could limit your long-term earning potential. The goal is to keep enough money accessible for short-term needs while investing your excess funds for future growth.

What are liquid assets?

Liquidity exists on a spectrum. Cash is the most liquid asset, but checking and savings accounts also typically offer high liquidity. Some options, such as certain money market accounts, may provide both accessibility and interest-earning potential.

Illiquid assets sit on the opposite end of the spectrum from cash. Common examples include:

• Retirement accounts
• Real estate
• Collectibles
• Private business investments

These assets can take more time to access or sell, making them less suitable for cash reserves. In some cases, they may also involve taxes, penalties or fluctuations in value. However, less-liquid assets can still contribute significantly to your net worth and support long-term growth, making them an important part of a balanced financial plan.

Calculating your financial liquidity

Assessing your personal liquidity can provide a clearer view of your current financial position. Your liquidity ratio and liquid-net-worth ratio can help you determine whether you have enough cash readily available for short-term needs—and whether some excess cash could be put toward growth-oriented assets.

How to calculate liquidity ratio

To calculate your liquidity ratio, divide your cash and cash equivalents—such as money held in checking, savings and other easily accessible accounts—by your monthly expenses. The resulting number estimates how many months you could cover your expenses using only your cash reserves.

For example, let's say you have $8,000 in personal liquid assets and your monthly expenses are $2,000. Your liquidity ratio would be 4.0, meaning you could theoretically cover 4 months of expenses in the wake of a financial setback like a job loss.

Many financial planners recommend maintaining enough liquid assets or cash reserves to cover 3 to 6 months of expenses. However, the appropriate amount depends on a variety of factors, such as your income stability, financial obligations and overall financial situation.

How to calculate liquid net worth

To calculate your liquid-net-worth ratio, divide your cash reserves by your total net worth. The resulting percentage shows how much of your wealth is held in liquid assets.

For example, if your total net worth is $120,000 and you have $18,000 in personal liquid assets, your liquid-net-worth ratio would be 15%.

• A higher liquid net worth means a larger portion of your wealth is held in cash or highly liquid assets. This may make sense for people with unstable income, near-term spending needs or a lower tolerance for risk.
• A lower liquid net worth suggests more of your wealth is tied up in less-liquid assets. This is more common among homeowners, retirees and business owners.

While some financial professionals view a liquid-net-worth ratio below 15% as a potential sign that too much wealth may be concentrated in illiquid assets, the appropriate ratio depends on your financial goals, income stability and overall financial situation.

Where to keep your cash reserves

After calculating your liquidity ratio or liquid net worth, you may decide to move some of your savings into a more accessible account.

• Checking and savings accounts offer immediate access to your money, making them a popular choice for emergency savings and short-term cash reserves. However, they typically offer lower interest rates compared to other options.
• Money market accounts generally offer higher interest rates than traditional savings accounts while still providing relatively easy access to your funds. Depending on the financial institution, minimum balance requirements, transaction limits and maintenance fees may apply.
• Certificates of deposit, or CDs, hold your money for a fixed period in exchange for a potentially higher interest rate. While early withdrawals may trigger a penalty, there are several CD investing strategies you can employ to balance accessibility with growth.

As you explore where to keep your cash reserves, consider factors like interest-earning potential, withdrawal restrictions and how quickly you may need access to the funds. For example, emergency savings may be better suited for a savings account, while money set aside for a specific goal—such as a wedding—may be a better fit for a CD.

Other ways to increase liquidity

Building cash reserves isn't the only way to improve your personal liquidity. Some people also maintain access to borrowing solutions they can tap if needed, such as a home equity line of credit. When used strategically, these tools can supplement—rather than replace—an emergency fund.

While borrowing isn't appropriate for every situation, a low-interest line of credit can provide an additional source of liquidity without requiring you to immediately sell long-term investments. As with any form of borrowing, it's important to weigh interest costs, repayment obligations and the potential impact on your overall financial plan.

Where to invest excess cash

If your cash reserves are already strong, you may choose to invest excess cash in assets with greater long-term growth potential.

• Money market funds are generally considered lower risk and relatively liquid compared to many other investments. While they can offer modest returns and easier access to cash, they aren't FDIC-insured like traditional bank accounts.
• Bonds may provide relatively stable income while offering greater growth potential than highly liquid cash accounts. They can generally be bought and sold on the secondary market, but some bonds are easier to trade than others, and selling before maturity could result in a financial loss.
• Mutual funds pool money from multiple investors to purchase a diversified mix of stocks, bonds and other securities. Investors can generally sell their shares at any time, but it may take several days for the cash to become available after the sale.
• Stocks may offer greater long-term growth potential, but they also carry higher risk and greater market volatility. While stocks can typically be bought and sold quickly, selling during a market downturn could result in a loss.

As you compare these options, be sure to consider how soon you may need the money, your financial goals and how comfortable you are with risk and volatility.

The bottom line 

Determining how much of your money to keep liquid is a personal decision influenced by a range of factors, including your income stability, monthly expenses and financial obligations.

While maintaining strong cash reserves can help you stay financially stable during periods of uncertainty, finding the right balance is key. By evaluating your liquidity needs, cash reserves and long-term priorities, you can build a financial strategy that supports both stability and future growth.