AFM Reader Question: Roth IRA for Emergency Fund?

I received the following email the other day:

I read a blog post a few weeks ago at about using your Roth IRA as an Emergency Fund. Here’s the blog post: Does Using a Roth IRA as an Emergency Fund a Good Idea?

I’ve been following your blog for several years now (you even wrote a blogpost about a question I wrote to you in 2009).

Anyway, I used to contribute to my Roth IRA regularly, but then stopped amid job transitions. I have a decent sized emergency fund set up, and recently decided to target 6 months expenses. I understand not having the entirety of an emergency fund set up in a Roth, since the value can actually go down when you might need it. I was just wondering what your take is on the blog post linked above?



Here are my thoughts:

First I would focus on getting 3 months’ worth of expenses socked away in a cash account for the bulk of the emergency fund. Then, I would invest through a Roth IRA and use it as a backup if necessary. So, I think the strategy has some merit. Yes, there is some risk involved due to volatility but if you already have 3 months saved up in cash, you may never need to take from the Roth.

The most important thing regarding emergency funds is to make sure you use it just for real emergencies (like the air conditioner goes out or for an insurance deductible). Too many people think new shoes are an emergency.

18 thoughts on “AFM Reader Question: Roth IRA for Emergency Fund?”

  1. If you’re not funding a Roth IRA already, and your income level allows you to, there’s no reason NOT to fund the first part of your emergency fund into a Roth IRA. It gives you a way to further distance this emergency money (making it harder to impulse spend) and you can withdraw your contributions penalty-free at any time.

    You should be doing:

    (0. Employer-matched 401(k) – up to matching amount – if you have a fully funded emergency fund)
    1. Roth IRA
    2. Emergency Fund
    3. Remaining room in a 401(k) above employee matching
    4. CD’s or higher yield savings

    0 is there ONLY if you have fully-funded an emergency fund AND your employer matches your contributions. If not, there’s no reason to contribute there until after you’ve fully contributed to your Roth and your emergency fund every year (i.e. if your emergency fund is full, do the Roth annually until it’s full then switch to an employer 401(k))

  2. I’d never thought of the possibility of using a Roth IRA as an emergency fund. My opinion? It can be done, but keeping an emergency fund in a good rewards checking account is a better plan.

  3. I think we need to be careful about putting too much money in 401k’s and IRA’s, we should put some money there but recognize, that in other countries, when times get tough for the government, the people’s monies in government funds like 401k’s and IRA’s end up getting transferred to government “safe” investments, AKA, into the government’s pockets. So I would say 50% in 401k’s and 50% outside of funds like that.

  4. A couple of things to remember when considering using a Roth for part or all of your emergency fund. First is that in order to be able to withdraw the funds you have contributed without penalty, at least one Roth account needs to have been open for about 5 years. Second is that the earnings on those contributions may not be withdrawn without taxes and penalty until you are 59 1/2.

  5. Tom — Roth IRA contributions (not earnings) may be withdrawn at any time, for any reason, without tax or penalty. There is no 5 year rule for contributions. What you are referring to with having the account open for 5 years applies to conversion amounts.

  6. @Jon You’re spreading fearmongering. They are not ‘government funds’ any more than a bank account is. There is no law or legal precedent for the govt. to utilize the money inside of an IRA or 401(k).

    @JLP I recommend you delete that sensationalist comment as it’s only spreading misinformation.

  7. Jimmy) In dictatorships, it has been done. Of course, never in the USA (aside from Gold that one time…).

    Anyhow, it is a valid risk, and one should weight it appropriately based on the probabilities of that outcome (which is extremely low as you pointed out).

    Back on topic) Using a Roth for an e-fund, sounds good to me, as long as you invest that money (within the Roth) in extremely safe assets like CDs — just as you would with a true e-fund. Just because it is in a Roth, doesn’t mean in has to be invested in risky stocks/funds.

    My investment priority list is more like:

    1 — 401k company matching limits (if applicable)
    2 — e-fund (cash equivalent investments)
    3 — 401k maximum contributions
    4 — Roth IRA
    5 — taxable accounts

    I’m still working on #3 (so no Roth for me yet at all).

  8. Thanks for the response! BG, why did you rank your 401k over the Roth? Just out of curiosity. It seems like everyone touts to invest in a Roth so you don’t pay taxes on your earnings.

  9. @Jimmy,

    I’m not saying you should live your life in fear, as I commented, I think 50% in 50% out is OK, and I include the value of your house as part of that.

    It is not fear mongering, it is seeing reality for what it is, governments have insatiable desire for people’s money, there comes a point in all governments where they need to become creative to get money (like the federal reserve, confiscating gold, and getting off the gold standard are all forms of this).

    I believe Argentina did this, don’t quote me on it though, it’s been a while and I don’t recall which country it was. Either way, you are the only person that is responsible for your money and so need to take necessary precautions for said money.

  10. Robby) I use 401ks (or traditional IRAs), so I don’t pay taxes on my wages 🙂

    Perhaps I will someday, but at least I know I’m not paying taxes _today_. BTW: some of my 401k money will be tax-free coming out as well (future standard deductions, personal exemptions), or taxed at a lower tax rate (10% bracket, 15% bracket, etc).

  11. Ok, now for the US.

    Ever hear of asset forfeiture? Many states do it, I know it isn’t quite the same, but it just shows what governments will do when they are hard up for cash.

    Here’s an article where California is confiscating people’s money. Not sure what the whole story is, if people are getting their money back or not. But often times the government goes after the poor first since they can’t fight back.

  12. Jimmy,

    My comments are in moderation that show government taking people’s money as proof, that doesn’t mean we need to live fear, it only means we need to be prepared, just like saving for retirement isn’t fear based, it is just preparing for the future.

    One last comment on the subject. Just look at Social Security, it was supposed to be a savings place for people’s retirements, but it has also been pillaged by the government.

  13. I would fear government take over for 100% of it.

    Get out now!

    401ks, unless you are getting a match are not good.

    Also, invest in gold. It’s only been around for thousands of years, and you know if our currency crashed like the EURO is with Greece don’t you bet they wish they had some gold or other diversification.

  14. I’ve made too much to qualify for Roth since they were introduced, though recently have been able to role my wife’s Traditional IRAs into a Roth. Does that mean we have to wait 5 years before being able to withdraw without penalty?

    Had no idea Roth’s were so flexible because I never had one before so never paid it much attention. Seems totally unfair to use an income limit (LOL just baiting BG….).

  15. Miguel) IRAs, 401ks, 529a, HSAs, etc, etc, should all be eliminated in favor of a simpler and flatter tax policy.

    I use these accounts to reduce my tax burden, and every dollar I avoid in taxes needs to be made up by all of you (everyone else) paying more.

    People who don’t use these accounts, subsidize the people who do.

    Miguel, as for income limits, I’d trade you your SS tax rates, for my ability to save in a Roth.

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