TL;DR

Instead of a savings / checking account for short term cash, consider using a Fidelity Investment account with a Core Position which automatically invests all your cash in money market funds. It is a great way to constantly have access to some of the best rates for cash you keep for short term purposes, without having to keep track of which banks are offering promotional rates.

Preface: Short Term vs Long Term Cash, and the goal

I define short term cash as cash you know you’re going to have to spend in the next few months (eg. rent, credit card bills, tax payments, etc.). While even the world’s worst market timer can make money over the long term, putting your short term cash in stocks or other volatile investments can really screw you when the market drops 20% the week before your taxes are due. For this reason, most people keep short term cash in checking accounts. The thing that’s always irked me is that checking accounts don’t earn much interest.

I define long term cash as money that you’re holding on to for some indeterminate longer term event (e.g.. buying a home, keeping dry powder for some market event) which you can always put off indefinitely. Personally I believe cash is trash (yes, I know Ray Dalio apparently no longer does), so I think this kind of money should be kept invested rather than in cash-like instruments.

This post is focused on where to easily (ie. least time required) and optimally (ie. earning the most money) keep your short term cash. There may be better ways to store your long term cash (bond ladders, games with CDs), but that’s not the use case here.

Conventional Solutions (And Why they Suck)

Checking & Savings Accounts

Checking and savings accounts are FDIC insured and let you park cash in them. Savings accounts usually offer higher interest rates than checking accounts. Since the amendment of Regulation D (removing 6 withdrawal limit on savings accounts), they’re effectively the same for our purposes. The main advantage of these accounts is that they are explicitly designed for short term cash management, so it’s easy to have bill pay automation set up and run your finances on autopilot.

The main issue with Checking & Savings Accounts for short term cash is:

• Chasing rates: Savings accounts don’t guarantee you a given rate (at least over the long term). Often, banks will offer exceptional rates to attract customers, and then lower them to more normal amounts over time. Additionally, banks are generally fast to adjust rates down when the Fed lowers rates, but slow to adjust them up when the Fed raises rates. This means you have to constantly check if you’re getting the best rate, and move accounts periodically

Certificates of Deposit (CDs)

CDs are FDIC insured instruments that let you deposit money for a fixed period of time at a fixed interest rate (usually¹).

The issues with CDs for short term cash are:

• Lock in / penalties: CDs usually require you to park your money for months to years to get a good rate. If you’re allowed to take your money out early, it usually comes with a penalty of ~6 months interest. This obviously isn’t a good choice for money you plan to use within a few months.
• No automation: CDs are meant to be a place you park your money for a fixed term. So most (all?) banks don’t offer an easy automated way to take money out to pay bills. And even CDs that let you withdraw with no penalty like Ally’s No Penalty CD only let you withdraw the whole amount, meaning you probably need to have multiple smaller CDs on the go a la a bond ladder. You would also need to manually buy a new CD every time you get a new pay check (and would miss out on the interest during any lag time there). Overall, this complexity isn’t worth it to most people for short term cash.
• Chasing Rates: Same complaint as Savings Accounts applies, with the extra annoyance that while savings account rates can be adjusted up, CD rates won’t adjust until maturity.

My Solution (Money Markets + Auto Sell/Invest)

My setup is:

1. I have a Fidelity Investment account with a Core Position which automatically invests all my cash in money market funds²
   • The auto-invest feature means there’s zero lag time between me receiving the money, and me starting to earn interest (just like a checking account).
   • The auto-invest options only support SPAXX and FZFXX which might not be the most tax optimal funds³, but they do have healthy yields that are better than almost all high yield savings accounts.
2. I have a “cash management” account set up as a sort of checking account.
   • This account always empty, and just does a no-fee over draft to my investment account.
   • When I set it up, I believed this indirection was required to enable the Fidelity feature that will auto-sell non-Core Position money markets to cover withdrawals. At this point, I’m not 100% sure that’s the case, but I haven’t experimented with closing the cash management account to test it out.
3. Every few months, I take whatever money is in the investment account, and put it all into FDLXX, which is more tax optimal than SPAXX or FZFXX (see case study below). This step is optional, but will minorly increase yields.
4. Whenever either account is debited, the money market funds are automatically sold to cover the withdrawal.
   • The less tax efficient auto-invested SPAXX funds are sold first, and the more tax efficient FDLXX funds are only ever sold if the SPAXX ones are depleted (I didn’t need to configure this, it’s the default behavior). This means that some core amount of the cash in my account is always invested in FDLXX, however, the exact amount will equivalent to the low water mark of the lowest amount of money I’ve had in the account since I last did step 3).
   • This auto-sell feature means I earn interest up until I spend the cash.

The benefits I see to this setup are:

• Acts like a checking account: I can withdraw and deposit money from the account just like a checking account, so all the standard bill pay automation options just work.
• Yields are on the high end, and they adjust quickly: The money market fund’s yields are based on short term investments, so as the interest rate environment changes they track it very quickly, meaning I never have to shop around for better rates.

I’ve been running this setup for years, and so far haven’t noticed any hitches (other than the fast response to interest rates meaning I earned 0% for a good chunk of the pandemic 🙁 ). Right now in February 2024 I am earning a 4.97% yield. In 2023, I earned $1,200.63 in interest from the cash I kept in this account.

Case Studies

SPAXX vs FDLXX

The yields from SPAXX (and checking accounts, CDs, and every other safe place you can park your money) are taxable at every level of government⁴. FDLXX, on the other hand, “invests at least 80% of the fund’s assets in U.S. Treasury securities,” which are tax free at the state and city level⁵. In reality, FDLXX far exceeds that target with 94.89% of yields being from tax-free treasuries in 2023⁶.

As of this writing (March 2024), SPAXX yields 4.96% and FDLXX yields 4.95%. Given that I pay 6.85% New York State tax and 3.876% New York City tax, avoiding those taxes makes FDLXX’s yield equivalent to a 5.51% pre-tax yield for me⁷. That 5.51% is slightly better than SPAXX’s 4.96% pre-tax yield.

Over the last year, my account balance has hovered around $20,000. Meaning that the additional 0.55% in pre-tax equivalent yields works out to $110. Given that it takes a few minutes to explicitly buy into FDLXX (vs just relying on the SPAXX auto-invest), this optimization meets the $200 / hour rule, but is definitely a micro optimization and optional for most people.

Note that depending on your state / city taxes and personal income, your results from FDLXX will be different.

My Setup vs Wealthfront Cash Account

Whenever I share this post internally at work, the Wealthfront Cash Account (not a referral link) inevitably gets brought up. It currently (March 2024) gives a 5% yield. You can earn an extra 0.5% for 3 months if you use someone’s referral link. Note that the referrer also gets +0.5% for 3 months as well, which is why people so eagerly spam their referral links.

During the promotional period, that 5.5% yield is just about the same as the 5.51% pre tax equivalent yield I get from FDLXX. After the promotional period, Wealthfront is already slightly worse. Additionally, Wealthfront can choose to change their rate at any time, whereas FDLXX is based on treasury bond yields. If federal bond yields go down, Wealthfront’s rate will definitely also go down, but Wealthfront can also lower their rates for any other reason.

To me, the Wealthfront cash account is a good, but slightly less optimal option.

1. Banks have played with nearly every aspect of a CD at this point. For example Ally’s Raise Your Rate CD makes the rate variable and their No Penalty CD basically removes the fixed investment period. These products are interesting and could be a good fit for you depending on your needs, but note that they always come with a rate penalty vs a regular high yield CD. Additionally, as least some of the criticisms in this section apply to each type of CD. ↩︎
2. Money market funds are financial instruments that hold short term bonds and aim to be dollar pegged (e.g. 1 dollar of shares always trades at 1 dollar) and provide a variable yield based on the yields of the underlying bonds. These can be exchange traded (e.g. an ETF that acts like a stock) or mutual funds.
   
   The two big caveats of Money Markets are:
   
   1) They technically can drop in value. This is called Breaking the Buck. It doesn’t happen often, is usually temporary, usually only involves a small % dip, and is supposed to be very hard to happen thanks to post-2008 reforms.
   2) They are not FDIC insured. They do have SIPC insurance, which provides some insurance against your broker losing your shares, but no protections against point 1 above.
   
   To me, the risks are low enough to make this setup worth it, given that this is only a few months of slush cash for me. ↩︎
3. For example, some kinds government bonds that money market funds can hold provide tax free earnings at the city, state, and federal level. SPAXX does hold some federal government bonds that are tax free at the New York City and State level, but in 2022 only 30.9% of their income was from government securities. That doesn’t meet New York State’s 50% requirement to be eligible to be tax deductible. ↩︎
4. See previous footnote for details. ↩︎
5. There are also Municipal (Muni) Bond money market funds like FTFMX, which are exempt from Federal, State, and City taxes. The problem is that the yields are commensurately lower (3.2% as of March 2024). I ran the same kind of calculation for FTFMX as I did for FDLXX (accounting for Federal income tax and Net Investment Income Tax saved, in addition to the State and City), and ended up seeing they had nearly identical pre-tax equivalent yields. That made me prefer FDLXX, because I can take the extra 4.95 – 3.20 = 1.75% interest I earn and invest it to gain even more yields before I end up having to pay it as tax to the government during tax season. ↩︎
6. You can find the 94.89% (and updated information in future years) by opening this page, clicking “2023 Percentage of Income from U.S. Government Securities” to find this PDF, and searching for “Fidelity® Investments Money Market Treasury Only Portfolio – All Classes.” Unfortunately, ctrl + f searching for “FDLXX” does not work, because the fund code is just listed as “various” in that PDF. ↩︎
7. The calculation for this is:
   Yield = 4.95 /(1 – 0.0685 – 0.03876) * 0.9489 + 4.95 * (1 – 0.9489)
   
   The meaning of each number is:
   4.95 = FDLXX’s March 2024 yield
   0.0685 = My New York State tax rate
   0.03876 = My New York City tax rate
   0.9489 = The share of FDLXX’s yields that are state and city tax exempt
   
   Breaking it down, 4.95 /(1-0.0685 – 0.03876) = 5.54 is calculating the equivalent taxable yield I would need to achieve a 4.95% yield after my state and local taxes were applied (i.e. a taxable fund like SPAXX would need to yield 5.54% for me to have 4.95% left after state and local taxes had been paid). We’re ignoring federal taxes here because both funds are subject to them, so there is no difference.
   
   If 100% of FDLXX’s yields were state and local tax exempt, that 5.54% would be it’s equivalent pre-tax yield. The problem, however, is that only 94.89% of the yields are state and local tax exempt, so that 5.54% needs to be reduced to 5.54 * 0.9489 = 5.26%.
   
   I still get to keep the remaining 1 – 0.9489 = 5.11% of FDLXX’s yields, but they are state and locally taxable, so their equivalent pre tax yield is unchanged. Thus, we get 4.95 * (1 – 0.9489) = 0.25% additional yields we can add into the 5.25% above for a total 5.51% equivalent pre-tax yield for FDLXX. ↩︎