The single most-asked question about small business cash: how much should I have set aside? The conventional answer (3-6 months) is a starting point. The right answer depends on what could go wrong in your specific business, and how fast you could react if it did.

The starting point: 3-6 months of fixed expenses

The standard recommendation for small businesses is to hold 3-6 months of fixed operating expenses in reserve. "Fixed" meaning costs that don't go away if revenue stops - rent, payroll, debt service, software, insurance.

Formula
Cash reserve target = Monthly fixed operating expenses × Target months

Typical range: 3-6 months
Volatile / concentrated / seasonal: 6-12 months
Worked example
A business with $40K of monthly fixed expenses (rent $4K, payroll $28K, software $3K, insurance $1K, debt service $4K) targeting a 4-month reserve should hold $160K in reserve separate from operating cash.

Three factors that push the number higher

1. Revenue volatility

A business with steady recurring revenue can survive on a thinner buffer than one with lumpy project-based revenue. Look at your monthly revenue over the last 12-24 months. If the standard deviation is more than 25-30% of average, you're in volatile territory and should target 6+ months.

2. Customer concentration

If your top customer is more than 25% of revenue, losing them would be existential. Multiply your reserve target accordingly. A business with one customer at 50% should hold enough cash to cover the time it would take to either replace them or scale operations down - typically 6-9 months.

3. Seasonality

Seasonal businesses need enough cash to cover the off-season, not the average month. A landscaping business that earns 80% of revenue between April-September needs reserves to cover October-March - even if the average year is profitable.

How to build the reserve when you don't have it

Most small businesses don't start with a healthy reserve. Building one takes discipline over months or years. A simple approach:

  1. Calculate your target. Be honest about which adjustments apply to you.
  2. Set a monthly contribution. Even 1-2% of revenue, automated, accumulates real money over time.
  3. Use windfalls. Tax refunds, one-time gains, oversized profitable months - the natural source of reserve building.
  4. Don't reach for the reserve while building it. The discipline matters as much as the balance.

A useful checkpoint: most small businesses can build a 3-month reserve in 18-24 months of consistent contribution. Faster if you have growth or windfall opportunities.

Where to hold reserve

Reserve cash should be liquid and safe. The principle: access on demand, no risk of loss. Reasonable choices:

  • Business savings account - the standard and easiest. Lower yield but immediately accessible.
  • Money market account - similar accessibility, often slightly higher yield.
  • Short-term treasury bills (1-3 months) - safe, liquid, often best yield for the risk level. Slight friction to access.

Not reasonable for reserve: stocks, long-term bonds, real estate, the business's own equipment, anything that requires selling at potentially-bad timing. The point of reserve is access when things are going wrong - which is exactly when those assets are hardest to liquidate at fair value.

Always separate it

The single most important rule: reserve must be in a separate account from operating cash. If it's mixed, it gets used.

Owners often start with "I'll just maintain a higher balance in the main account." This never works. The discipline of moving money to a separate account, and treating that account as not-for-touching, is what makes reserve actually function.

When to use the reserve

Reserve is for genuine emergencies, not normal business variability:

  • A major customer leaves unexpectedly
  • An economic downturn affects revenue materially
  • An unexpected lump-sum expense (legal, regulatory, major equipment failure)
  • A health or family emergency takes you out for an extended period

Not reserve events:

  • A normal slow month
  • A delayed receivable that'll arrive next week
  • A growth investment that's "definitely going to pay off"
  • Paying owner distributions

If you're dipping into reserve regularly for normal operating variability, your operating buffer is too thin - build it up before treating the reserve as another line item.

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