Should You Invest Your Emergency Fund?

With the adage that the only way to truly build wealth is to invest, it's understandable if you're feeling a little uneasy about leaving a chunk of change parked in your savings account earning minimal interest. However, this money is earmarked for a very specific purpose—to bail you out in case of an emergency, like a sudden layoff or a surprise home repair. If you invest your savings, you've tied up your money in the market and can't easily access it; then your emergency fund won't end up being much help.

Still, there can be exceptions to the rule, and like most things financial, it really comes down to your personal situation and preferences. Here's what to consider before you invest your emergency fund, as well as where to park your savings if you decide you want to earn more.

The general rule of thumb for your emergency fund is that it should cover three to six months' worth of living expenses. That way, in case you should face an unexpected event like a job loss, a major car repair or a sizable medical bill, you can stay on your feet for a certain amount of time, covering your basic costs of living.

To determine your living expenses, you'll want to start by estimating your monthly costs for your essentials. This should include:

• Housing (mortgage or rent payments)
• Food 
• Transportation
• Insurance (health, auto, home/renters)
• Healthcare
• Childcare (if applicable)
• Utility bills
• Cell phone
• Debt

Once you have that monthly figure, multiply it by the number of months you'd like to have covered by your emergency fund. If you're in a less stable situation, such as an economic recession or employment in an industry where layoffs are common, you might consider saving more rather than less.

In general, it's not a great idea for most people to invest their emergency fund. Your money in your emergency fund is meant to be easily accessible and there for you whenever you may need it.

That being said, those who already have a lot stashed away and just want to invest a portion of their emergency fund might be able to get away with it. Here's what to consider if you're weighing whether or not to invest your emergency fund.

Like most financial questions, the answer to whether it makes sense to invest your emergency fund ultimately depends on your personal situation. If you have more than you think you'd realistically need in your emergency fund, you may think about investing that excess money, though you'd want to crunch the numbers to really make sure it's excess before you do so. 

Also, keep in mind your risk tolerance—are you comfortable taking a chance with money you'd set aside to cover yourself in an emergency? Look at the stability of your overall personal and financial life. If there's any shaky ground there, do you really want to add more risk to the equation by depleting some of your cash cushion? On the flip side, if everything is well and good and seemingly locked in, you might feel okay doing so — and earning some higher returns on your funds while you're at it.

Investing always comes with the risk of loss, and your emergency fund is no exception. If you're considering investing your emergency fund, you'll need to realize you could very well lose the money you'd stashed away to save yourself in emergency situations. Consider what you'd fall back on if you lost your emergency fund because of market volatility.

If you're really set on investing your emergency fund, remember you don't have to invest all of it. You could try investing just a portion, perhaps the amount that's in excess of how much you absolutely need. And consider investing that portion in something low-risk and liquid, so you don't stand as great of a chance of losing your funds and so you can still easily access the money in case you were to end up needing it.

Remember that the profits you'd make when you invest your emergency fund aren't all yours for the keeping. You might owe taxes on your gains when you withdraw your funds, cutting into the benefits of investing the funds. How much you'll owe in taxes will depend on when you bought and sold the investment, as well as your income and filing status.

If you've weighed all of the pros and cons of investing your emergency fund and decided to move forward with it, here are some of the best ways you can invest it.

A high-yield savings account is a pretty safe option for your emergency fund. You'll earn a higher interest rate than you would with a savings account at your typical big bank, while still enjoying the protection of FDIC insurance. With the Citi Accelerate high yield savings account, for instance, you can earn an APY of 0.50%—a far cry from the current average savings rate of 0.06%.

Keep in mind that with a savings account you are limited to a certain number of withdrawals per month, making this option slightly less liquid than a checking account. Still, it's unlikely you'd need to dip into your emergency fund more than six times per month.

Another option that can step up your interest rate from the standard checking account is a money market account. Like savings accounts, withdrawals are limited to six per month under federal Regulation D. They can pay a higher rate than a savings account, though in some cases you may have to meet higher minimum balance requirements. Axos Bank, however, has no minimum balance requirements and offers an APY of 0.60% on its high-yield account money market account.

Another option for your emergency fund is a certificate of deposit, or CD, though note that these are even less liquid than savings and money market accounts. With a CD, you lock your money in for a set term—generally anywhere from three months to five years—and you'll pay an early withdrawal penalty if you take out your money before then. Because of this, you'll want to make sure you really wouldn't need this money in case of an emergency.

The upside is you're rewarded with higher interest rates. For example, Quontic offers an APY of 1.11% on its 5-year CD. If you're not ready to tie up your money for quite that long, its 3-year CD still offers 1.00% APY.

Stocks by far offer the highest possible returns of any of the above options—but they also carry the most risk, and returns are by no means guaranteed. While the above products are all generally covered by FDIC insurance, you don't have a safety net with stocks and could lose all of your money if the market were to crash. 

If you're comfortable with this possibility and think you can afford to take the risk, an app like Stash makes it easy to invest by allowing you to buy less expensive chunks of stocks called fractional shares.