Do you …
▶︎ Buy the house or sports car of your dreams?
▶︎ Pay off debt?
▶︎ Invest in your future?
▶︎ Treat yourself to something special and save the rest?
▶︎ Use the money to live on so you never have to work again?
Even if you’ve saved or invested before, making the most of a large sum can be daunting … and it’s often emotionally difficult to deal with. This can be especially true for those who receive windfalls due to themselves or a loved one becoming injured or a loved one’s death.
We’ve all heard some windfall horror stories about those who have recklessly spent large sums of money quickly, even ending up in debt after it was all gone. Unfortunately, we don’t hear enough about the success stories, the wins of being financially fortunate and parlaying that fortune into a more than comfortable financial future. It’s simpler than you may think. And while it requires some discipline both initially and indefinitely, the rewards are totally worth the effort. If you’ve received an unexpected sum of money, here are some steps to make the most of it.
First Things First: Make a Financial Plan!
Whether you want to use the funds to support your lifestyle so you no longer have to work, use them to grow your wealth, or something else entirely, having a plan for the funds and for your future is crucial.
That’s because, with more funds at your disposal, your goals for your future may change. And even if they don’t, properly managing your newfound funds will be crucial to your future and will impact the legacy you leave.
Your Financial Foundation: If you’re thinking of using your windfall to get back on track with your goals, pay down debt, or getting ahead on your path to financial independence, your financial planner can help you strategize your next steps. As a foundation for your future, you’ll also want to ensure you have your emergency fund “filled up.” You may even add a few months’ expenses as a buffer in case lifestyle creep sets in. With more money available to you, it may — and probably will — be tempting to spend more.
Your Investment Strategies: If you’re planning to continue working but want to reduce your taxable income, you can use your windfall to supplement your living expenses while maximizing your retirement funds. Whether it’s your traditional IRA or employer-sponsored retirement plans, funding tax-advantaged savings vehicles could offer a reprieve not only when you receive your windfall but for years to come. This strategy can also lend itself to helping you further diversify your investments. It also allows you to grow your wealth to reach other goals.
Your Lifestyle Changes: Maybe you’d like to live on your windfall so you don’t have to work and can instead pursue hobbies, use your time to volunteer for your favorite causes, or simply enjoy more free time. Or perhaps you’d like to spend time caring for an aging loved one or traveling. Given your available funds, living expenses, and goals, your financial planner can help you understand how long your windfall could last if you were to maintain your current path. They can also show you how you can make small adjustments to make it last longer — while also living the lifestyle you desire.
Your Philanthropic Intentions: Perhaps you’re considering being philanthropic with your funds. Different types of charitable giving can allow you multiple tax breaks over time through charitable trusts, donor-advised funds, or private foundations. All three allow donors to give to qualified charities and receive tax deductions for doing so.
Whatever your goals, working with a full-time fiduciary financial planner can help you bridge the gap between where you are and where you want to be. And having a pro on your team can be crucial as you work through some of the emotions of receiving a windfall or as your priorities change along the way.
Begin by working with a financial planner to establish your new normal. That is, re-establish your current financial position, windfall included. If you have the chance, it can be helpful to begin this relationship when you find out you’ll be receiving a windfall — before you receive the funds — so you can prepare in advance.
You may have a choice to make on how you’ll receive the money, whether as a lump sum or through payout options. It can be helpful to work with a pro to run the numbers as payout options — and the amount you could ultimately end up with — can also differ.
And your options for receiving your funds could affect the taxation of your windfall, so be sure to consider the tax implications.
Make a Tax Plan
The type of windfall someone receives is also very meaningful when it comes to tax planning. While you may never owe any taxes on gifts, inheritances, and life insurance payouts, other windfalls may be taxed federally or at state or local levels. If you win the lottery or have gambling winnings, you’re going to have most, if not all, of the tax due withheld at payment.
Tax may also be due on amounts received via settlements, depending on the type. If you have a big payday from an initial public offering (IPO), you will have a tax bill, but you may not have much in terms of withholdings, and you’ll also need to work on estimates that depend on the stock compensation plan (RSU, ISO, ESPP, etc.) type.
Given the different types of windfalls and differing taxation, it can be helpful to work with a tax professional in addition to your financial planner or a financial planner who has strong tax-planning experience. Once you’ve figured out the tax implications, add them — and funds to cover them — to your financial plan so they don’t surprise you later. And you will, of course, want to protect your windfall — even if you haven’t decided what to do with the money yet.
Keeping It Safe
What does “safe” mean, exactly? Well, it depends, at least in part, on the amount of money you’ve received and how you’ve received it.
If you’re looking at a cash windfall of $250,000 or less, you can store it at your local FDIC-insured bank or NCUSIF-insured credit union. These insurance types are important if you’re considering depositing your windfall funds at such an institution. They show that the institution offers government-backed protections. The Federal Deposit Insurance Corporation (FDIC) protects you from losses at banks while the National Credit Union Share Insurance Fund (NCUSIF) offers similar protections at credit unions. Not all banks and credit unions are insured, so it’s best to check.
FDIC and NCUSIF insurance protect funds in checking and savings accounts as well as certificates of deposit (CDs) and money market accounts. However, they don’t cover investments in stocks, bonds, ETFs, mutual funds, insurance products, or Treasuries. FDIC insurance also doesn’t protect against theft, but most banks carry separate insurance that does.
FDIC and NCUSIF insurance both protect up to $250,000 in individual accounts. You can also “stack” these protections by placing your funds in different accounts, like $250,000 in checking, $250,000 in savings, $250,000 in a money market, and $250,000 in a CD for a total of $1 million in protected accounts. But be prepared: If you earn interest on or make a deposit that takes the amounts above $250,000 in any single account, the protections don’t extend to cover the funds that are over the limit.
If you need to insure more than these limits allow, you could open multiple accounts at multiple banks and save up to the limits there. Because keeping funds in separate accounts at different banks can get tricky, many brokerages offer the ability to park funds in short-term CDs and other liquid cash holdings, distributed across several banks.
But what if you didn’t receive just plain cash? What if your cousin Eddy left you acres of land? Or your dear grandmother left you numerous shares of stock? Do you convert the stocks to cash? Do you keep Cousin Eddy’s gift in land? Buy more of the same stock? Ultimately, one of the best ways to protect your funds while keeping them productive is diversification.
If that’s a word you associate with investments and financial planning, you’re on the right track. Simply put, diversification means saving and investing in many different financial assets. This limits your exposure to individual risks by mixing your investments among different asset classes, like cash, stocks, bonds, real estate, businesses, collections, and so on. While no single strategy or collection of strategies can protect against loss in each and every situation, working with your financial planner to determine how to best execute a diversification strategy that’s appropriate for you will help to keep your money productive while you sleep easier at night.
Put your plan into action
Here’s the best thing you can do with your financial plan: Implement it! And as things change, remember that financial planning is an action, so be sure to revisit your plan and update it along the way.
Common early planning issues: Hey, you just came into quite a bit of money — surely, you’ll need to review and update your estate planning documents. You may choose to include donations to your favorite charities or dividing your assets differently among your beneficiaries now that there’s considerably more involved. And checking your account beneficiaries is always a good idea when account values change drastically. An attorney who specializes in estate issues can help you craft the right estate plan for you.
Your cash-flow plan — aka your budget — is also important early on after you’ve received a windfall. There is a lot of low-hanging fruit when it comes to coordinating investment, tax, and spending plans. Pragmatic steps like maxing out tax-qualified investment vehicles and living on a cash supplement from your windfall are just the tip of the iceberg. You can use our Budget Plan Worksheet for a head start if you’d like.
And don’t forget to treat yourself! (Hint: What better way to celebrate your windfall than by making the most of it with a financial plan? We may be biased, but we feel like a comprehensive financial plan is a way to treat yourself.)
If you’re looking for a full-service financial planning relationship — complete with a Certified Financial Planner™ professional who can help you with your windfall along the way — our Comprehensive Services offering might be just what you’re looking for. It includes unlimited meeting and consultation time, and your CFP® pro can be by your side at meetings important to your finances. With financial planning, investment management, and tax preparation all included for a simple flat-dollar fee, you can be sure that you’re consistently making the most of your money in the way that fits your life. Get the details on our Comprehensive Services and see if it’s the right fit for you.
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