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What to Do When You Get an Unexpected Windfall 

We have all thought about what we would do if we had a sudden influx of a large amount of cash. Most people do not have a solid plan and this is why lottery winners declare bankruptcy in five years or less on average. Because most financial windfalls are sudden and unexpected, a lot of people do not have an adequate plan of what to do should they receive one. Even when you receive a hundred thousand dollars, there is a lot that you can do to ensure the money makes a massive change to your life.

Understanding Financial Windfalls

A financial windfall is a large sum of money that you did not expect to receive. Because of this wide definition, there are lots of ways you might receive a windfall but the two most common ways are inheritance and winning the money. Some people might also receive a payout due to something unfortunate happening to them such as an accident for which they receive compensation for. Some people might receive a bonus at work while some might sell something they did not know was so valuable such as an antique that has been in the family for a long time.

Regardless of how or why you receive the windfall, there are a few things you need to prepare to ensure the money changes your life.

Stay Vigilant of Your Own Psychology

Everyone is different and there is no knowing how they will react to a sudden influx of hundreds of thousands or even millions of dollars. Also, no one knows how the people around them will react to the news and so it is best to be prepared psychologically for when it happens.

For many people, a sudden windfall means their spending capacity increases, and they may end up spending it lavishly. Some might distribute it to friends and family while others may become paranoid from receiving a huge sum of money.

It is important to stay vigilant of your psychology and how you react to receiving such an amount of money. Also, remind yourself to always stay grounded so that such a windfall does not cause large scale changes to how you act around people.

Think About the Future

A common mistake people make when they receive a windfall is quitting their jobs. They figure that such an amount of money will keep them enjoying their current lifestyle in perpetuity. This is not always true and this type of short-term thinking can have dire consequences in the future.

The best thing in this case is to not change your life drastically after receiving the windfall. Go to work, keep your current standard of work and only leave when you have put measures in place to make the money work for you in perpetuity.

Beware of The Joneses Syndrome

The Joneses syndrome, or lifestyle creep, is when someone changes their lifestyle to live big, or to match someone else’s lifestyle. It can happen consciously, but it also happens unconsciously for a lot of people. Wanting to match up like this can be dangerous because it is a game that does not have an end.

Once many people who chase these types of lifestyles achieve them, they often look ahead and want to match a better lifestyle. Before they know it, they do not have any money left and have to backtrack and make reductive changes to their lifestyles.

Think of the Tax Implications

Most people who get a large windfall forget that it might be subject to tax. The rate at which it is taxed depends on where they live. If it is subject to taxation, expect the government to take about 20-30% of the windfall. This means the recipient might not end up with as much money as they thought they were receiving.

Second, a windfall can cause you to be moved to a higher tax bracket for the foreseeable future. This can have serious implications on various areas of your life, including ones you might not have considered.

The best thing to do once you receive a windfall is talk to a professional. Just as you would get financial advice before making any financial decisions, talk to an expert before moving forward. They will help you devise a plan on what to do with the money as well as how its taxation will affect your life so you can adjust accordingly.

What to Do with Windfall Money: Pay Off Debt

A windfall can change your life significantly if you start off paying your debts first, especially high-interest debt. Debt such as payday loans or credit card debt can accumulate quickly and should be paid off as soon as possible. Once you do this, consider paying off other types of debt in order of decreasing interest rates.

Doing this can have a positive impact on your life, including helping improve your credit, which makes it easier to get credit in the future should you need it.

Invest

The next step is ensuring the money can last for a long time, especially if you are thinking about retiring. The best way to do this is to invest the money. The one thing you should keep in mind is the power of compounding interest. Depending on how much you invest and what you invest it in, it is possible to earn a passive income without withdrawing the invested sum.

Where you decide to invest your money and what you invest in is a personal choice, although some investments are better than others. For investments that have a low risk and reasonable returns, especially if you are looking to invest long-term, consider investing in stocks. Stocks have been shown to outperform most other investment options, especially for stretches of 10 to 30 years. 

If you do not know how to buy stocks or invest in them, WealthSimple has a detailed guide geared towards beginners. Their guide on how to buy stocks has all the information you need to get started, including the various stock investment options available to you. Once you are ready to invest, WealthSimple makes it easy through their WealthSimple tool which allows you to auto-invest every month. They also have a team of financial advisors to help you craft the perfect portfolio depending on your needs and the amount you would like to invest.

Other long-term investment options include real estate and stock funds. Bonds are a great medium-term investment option because they keep pace with inflation and help ensure your money is not wiped out due to inflation. Remember that inflation erodes the value of your money or investments that do not keep pace with it so ensure any investments you make outperform the current and projected future inflation rates.

Consider an Emergency Fund

No one knows what will happen in the future and this is why it is always a good idea to have an emergency fund. The money should be kept in a liquid account which means an easy-to-access savings account. Because you have already invested some of the money received, the interest paid on the money should not be a critical factor when choosing a savings account, but it certainly is a plus.

How much money you end up putting in the emergency fund is up to you, but you should ideally put away about 6-12 months of your current monthly expenses. This is a great buffer to get back on your feet should the unexpected happen. You can also consider starting at three months of expenses and adding to the fund until you get to 12 months. In an overwhelming majority of cases, there is no need to have more than this saved up. 

Consider Paying Off Your Mortgage or Buying a Home

While it is true that a mortgage is essentially debt, it is a different kind of debt from the debt discussed above. Mortgage rates are so low that they do not usually pose a problem for most people. Additionally, paying off your mortgage means you are getting something now, and in the future, while for other types of debts you are paying off something you have already used up.

Paying off your mortgage increases your equity. Completing your payments means you have financing and credit options available to you should you need them in the future. Also, paying off your mortgage, which is a debt, is a great way to improve your credit.

Consider Estate Planning

Most people do not want to think about what will happen once they are no longer alive, but it is important to take care of your estate planning as soon as you can. Remember, this step will be highly dependent on how large the windfall is. Estate planning ensures the money can be passed to your loved ones without any fuss.

If you ever receive a financial windfall, you have to be prepared for it. What you do as well as what you do with the money will determine if it changes your life or not. It can be the chance to change your life as well as the lives of generations to come after you.

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