How to prudently deal with a sudden financial windfall
Pecunia non-olet (“money does not stink”) is an old Latin saying. The phrase is ascribed to the Roman emperor Vespasian (ruled AD 69–79) and is still used today to say that the value of money is not tainted by its origins. And indeed: a sudden windfall should reduce your financial worries. However, making good decisions with a large infusion of cash can feel overwhelming, especially if your windfall comes about because of something negative like the death of a parent or spouse. If you’ve received a windfall, taking your time and making intentional decisions about the money will serve you better in the long run.
Take some time
No matter how you received your newfound wealth, you’re likely to have a number of strong emotions associated with the event. And we all know that emotions and rational decisions can struggle to coexist. That’s why it’s a good idea to take a little time before you make any decisions whatsoever with your new money.
If the money came to you because of a negative situation, such as a death in the family, the end of a lawsuit, or the sale of a beloved business, your emotions will inevitably color your view of the money. Even if you have positive associations with the money (after a lucky weekend at the Seminole Casino or a surprise profit-sharing bonus from work), those fuzzy feelings may prompt you to make risky decisions to keep the good vibes coming. Letting some time pass between receiving your windfall and deciding what to do with it can help you view the money more dispassionately so you can make the best possible decisions with it.
Uncle Sam want his cut
You will not be surprised when I tell you that tax implications of your windfall could be a major deciding factor in how you choose to use it. Some types of windfalls, like life insurance benefits, can pass to you tax-free. However, for most types of windfalls, you can assume that Uncle Sam will want his cut. For instance, the killing you made at the blackjack table is considered normal income to the IRS, which means you may have shifted into a higher tax bracket when you walked off with a substantial win. If you don’t plan for this shift in your income taxes, you may find yourself staring down a nasty surprise come tax time. As a CPA, I can help you figure out the best way to navigate your sudden bump in income. For instance, we might suggest that you maximize your tax-deferred retirement contribution this year to help offset your windfall.
Sold a business?
If you sold a business, inherited taxable property or accounts, or even got a major bonus at work, we as a tax professional can help you determine the most tax-efficient way to access and enjoy your new wealth so that you’re not stuck holding the bag when the taxman comes calling.
So how long should you pause before deciding what to do?
Depending on the size of the windfall, you might want to wait as long as six months (or longer) before making any decisions. This will give you time to process your emotions so that you’re psychologically ready to make these big choices.
What you do with your money while you wait to make the big decisions depends partially on where your windfall came from. Life insurance benefits and other inheritance money can sometimes stay safely in the same account you’ll be paid from. In these cases, it’s common that your money will even earn some interest while it stays put. Simply keeping the money in place can be a good way to give yourself the emotional breathing room you need without worrying about making a preliminary decision.
Other types of windfalls
Other types of windfalls, such as lottery winnings or an inherited retirement account, may give you the option of taking a lump sum or annual payouts. Choosing annual payouts (when available) will give you the opportunity to make lots of smaller decisions over several years (incl. reducing your tax burden), rather than overwhelming yourself with the need to make several big decisions at once. For when you have no choice but to take your entire windfall into your hands, stashing it in a money market account or high-yield savings account can be a good way to keep it safe. Afterward, you have still plenty of time to talk to your financial advisor and your trusted CPA.