What would you do if you had a stroke of financial good fortune during economic uncertainty?
But lotteries don’t favor the masses. Big winners are extremely rare, and sometimes these mega jackpots can ruin lives. Games of chance sell dreams of instant riches that, unfortunately, appeal to people who can least afford to play.
In reality, more people are likely to get a windfall from an inheritance, insurance payout or from winning a lawsuit. Maybe next year your tax refund will be unexpectedly large.
If managed well, this bonus money can do some good. If not, your sudden wealth could leave you just as quickly broke.
Several callers to my toll-free line (1-855-ASK-POST or 1-855-275-7678) have asked how to handle a windfall.
“I have waited four years to get a legal settlement involving being fired from my job,” Maryland resident Rebecca Ebaugh said when she called the toll-free line. “Now that it’s coming into reality, I don’t even know whether I should try to invest it with the economy being so perilous right now. What would you do with close to $100,000?
Here’s what I would and have done after receiving a windfall.
— Pause. Put the brakes on an impulse to spend right away. Even if you’re deep in debt, wait.
Don’t rush any decision until you’ve looked at your entire financial situation. Maybe you need to build up your emergency fund as I explain here — even just a little — rather than using all the money to get rid of your credit card debt.
You still need a rainy-day fund. Otherwise, should a financial crisis hit you with no savings, you would be back in debt.
Getting bonus money could make you a bit reckless, so pausing gives you time to consider how best to use the funds.
We also tend to think of a windfall differently, as if it’s not real but play-only money. Pausing helps you resist the temptation to fritter it away.
— Park it. Put the money in an interest-bearing account at a bank or credit union. You want something safe and short-term while you decide what to do with the money.
That’s what Ebaugh did. She parked her settlement in a money market account.
Two sites to find the deposit accounts with the best rates are bankrate.com and Investopedia.com.
— Plan. Take some time to develop a financial plan. Consider future financial needs, such as college tuition for your children, retirement, charitable contributions or relatives you’d like to assist. Once you think things through, you might realize that your first instinct to splurge on an expensive car or luxury vacation is not the best use of the funds.
— Pay for professional help. Find a tax adviser and a financial planner.
The tax man could come for some of your money. Generally, money received from the settlement of lawsuits and other legal remedies is taxable income unless exempted, according to the IRS.
“For damages, the two most common exceptions are amounts paid for certain discrimination claims and amounts paid on account of physical injury,” the agency explains on irs.gov.
Ebaugh, 67, whose claims against her former employer included age and disability discrimination, said she’s consulting with her tax accountant to determine her tax liability. She’s set aside 30 percent of the settlement for taxes just in case.
If you are unsure how to handle a large lump sum of money, consider hiring a financial planner. You can find a fee-only financial adviser by going to the website of the National Association of Personal Financial Advisors (napfa.org).
Ebaugh talked to her financial adviser and has wisely invested her funds.
— Put philanthropy in perspective. When money drops in your hands, it’s amazing how many hands start reaching out for help.
Charitable giving can be part of your windfall financial plan.
But be careful that your giving doesn’t enable irresponsible family and friends. If you decide to share your wealth, set aside a specific amount of money you are willing to give — not lend. Stick to that limit.
Give out of your extra. Don’t be guilt-tripped into giving more than you can afford.
— Party. It’s okay if you aren’t mired in debt or behind on your savings goals to have fun with your bonus money.
Ebaugh said her long legal battle made her very reluctant to celebrate her victory.
I encouraged her to splurge a little.
“My husband made me promise that we were going to have a blowout meal, and we are going to do that,” Ebaugh said.