Although the odds of winning the lottery may be stacked against you, there’s a chance you’ll receive a large – perhaps unexpected – financial windfall at some point during your life. Regardless of how it arrives – inheritance, insurance payout, divorce settlement, retirement-plan distribution, sale of a business, or company stock options – careful money management is critical to enjoying the money for years to come.
Unfortunately, many windfall recipients fail to use their newfound wealth wisely and are left with little or no savings – and lots of regret. To avoid joining their ranks, here are three important considerations to keep in mind if you receive a large cash payout.
Most windfalls are squandered during the first days, weeks, and months because many recipients make impulsive decisions to quit their jobs, take exotic vacations, or buy a new house or car. For this reason, the best course of action is often to leave the entire sum in a money-market account for the first six months. This requires a great deal of discipline, but you’ll avoid making irrational decisions. This will give you time to evaluate your options and develop a solid long-term plan.
Many people mistakenly believe a large sum of money is the answer to all of their problems. In fact it often creates new anxiety and stress. By explaining your options and creating a plan, a qualified Financial Advisor can help manage a windfall.
While using a portion of the windfall to reduce debt and pay bills is often a good idea, investing a significant sum for your future is also recommended when suitable. The windfall’s potential for appreciation can be significantly increased through long-term investments in both stocks and bonds. Keep in mind, though, investing money also carries risk. In many cases, investing a windfall can be a difficult decision. But it’s important to remember that, factoring in inflation, cash not invested could be losing purchasing power.
Upon hearing about your windfall, friends and relatives may come forward offering financial advice. While they may have your best interests at heart, their advice might not help you achieve your financial goals. Before you make any investment decision, it’s important to review your existing holdings, expected expenses, employment security, risk tolerance, taxes, and time horizon before retirement. A Financial Advisor can help you evaluate these variables and design a long-term plan to help you achieve your goals.
One strategy a Financial Advisor might recommend – to avoid investing the entire sum during unfavorable market conditions – is dollar-cost averaging (investing a predetermined sum of money on a regular basis). Dollar-cost averaging does not guarantee a profit or protect against loss in declining markets. It involves continual investments, so you should also evaluate your ability to continue purchases through low price levels. But it can help even out the market’s peaks and troughs. It can also help you resist the urge to time the market — something even professional investors seldom do well for any length of time.
A large financial windfall will quickly educate any unsuspecting recipient about the tax strings attached. To determine how much to set aside for taxes, check with a tax advisor or accountant. The sooner you can calculate tax implications, the easier it will be to plan for the future. Since the windfall may push you into a higher tax bracket, it’s also a good idea to discuss what steps can be taken to manage taxes in the coming years.
How you spend, save, and invest your wealth windfall will determine whether the money helps you achieve your financial goals or leaves you with regret. To learn more about effectively managing an inheritance, insurance payout, divorce settlement, retirement-plan distribution, sale of business, or company stock options, contact your Financial Advisor.
Wells Fargo Advisors / Wells Fargo Advisors Financial Network is not a tax or legal advisor.
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