Congratulations on your pay raise or bonus! Now it's time to get serious about how to use that extra money to improve your finances. Laura covers six wise strategies to create more security, so you don't fritter away an exceptional opportunity to build wealth.
It’s the time of year when you may have received a pay raise or year-end bonus and be unsure about the right way to spend it. Congratulations, it’s a great problem to have!
Before you’re tempted to spend a windfall on something frivolous, consider how it could be used to create more financial security instead. In this post, I’ll cover 6 strategies to wisely manage extra money so you don’t fritter away an exceptional opportunity to improve your finances and build wealth.
6 Strategies to Manage Extra Money Wisely
One of the first impulses we usually have after getting a bigger paycheck—or any unexpected income for that matter, such as a tax refund or inheritance—is to upgrade our lifestyle. Maybe you’ve been thinking about buying a bigger home, moving into a better apartment, getting a new car, or joining an exclusive gym or country club.
Increasing your expenses to match your income is called lifestyle creep. It’s one of the biggest dangers to your financial future because it doesn’t seem like a bad or crazy idea at the time.
You might believe that you deserve to buy something pricey or make a luxurious lifestyle change after working hard for your raise or bonus. And maybe you can afford it on paper.
I’m not saying that you shouldn’t enjoy your additional income. But what I recommend is that you take a hard look at your finances and use this opportunity to strengthen your foundation before committing to bigger expenses or luxury purchases. Letting extra cash slip through your fingers to finance a more expensive car loan or pay more rent means that you’ll miss a huge opportunity to build long-lasting wealth.
Now’s the time to refocus your goals. If you missed the previous Money Girl Podcast, The Simple Truth Behind Growing Rich, it will help you figure out what you want to accomplish with your life and finances. Ask yourself questions like:
- Should I make a career change or start a business?
- How would I handle an unexpected financial hardship?
- What type of lifestyle do I want in retirement?
- Do I want to retire early?
- Would my family be safe without me or my income?
Thinking though tough questions helps you know how extra money can help you get what you want out of life. Use these 6 strategies to manage your additional income wisely:
1. Fortify your emergency fund
The best way to make sure you’re ready when bad luck strikes, is to prepare for it today.
The best way to make sure you’re ready when bad luck strikes, is to prepare for it today. No matter if you have a small unexpected expense, like a car repair, or something major like getting sick or losing your job, you need a financial safety net.
Devastating events are tough enough to handle without also being stressed about money. When you don’t have a financial cushion to soften the blow of a large expense or a loss of income, you end up relying on credit cards.
Yes, it’s good to have credit as a last resort. But please understand that it’s an expensive option because high interest gets added to your balance every month until you pay the entire balance. For many, using a credit card as an emergency backstop puts you in a huge financial hole that can take decades to climb out of.
That’s why your number one financial priority before doing anything else, such as investing or paying down debt, should be to accumulate an emergency fund. Studies show that 46% Americans couldn’t come up with $400 to cover an unexpected expense. I don’t want you to be a part of that statistic.
Having at least a couple months’ worth of living expenses, and ideally a minimum of 6, on hand gives you a tremendous amount of peace. You’ll know that you’ve got money to deal with just about any distressing situation that blows into your life.
So, if you don’t have a healthy emergency fund sitting safely in a bank savings account, use every bit of your pay raise or bonus to start building one. Get a tax refund? Pile it on top and feel empowered.
Don’t worry if your cash reserves earn little or no interest in the bank. They’re not supposed to. The purpose of emergency savings is to be accessible and liquid in the short term. If you invested your emergency money, the value could shrink to nothing the moment you need it.
See also: 5 Tips to Build a Financial Safety Net