What is a Windfall – Manna from Heaven
If you’re like me, you have been blessed, or lucky, depending on your point of view, to have received some financial windfall in your life. Consequently, if you’re like me, in hindsight, you have many better ways you could have managed that windfall.
First, let’s talk about the meaning of a financial windfall. For our purposes, a financial windfall is an unexpected amount of money (usually over $1000) that an individual, family, or business receives.
There are many types of windfalls, but to simplify, we will focus on sources that include employment bonuses, business deals (or sales), inheritance, investment returns, legal settlements, and prize winnings.
The key benefit of a windfall isn’t necessarily the amount, because the amount is subjective. Ten thousand dollars may be the difference between homelessness and debt freedom for some people, but for others, it may only offer a minor respite.
The key to a windfall is that it is an unplanned, positive financial event.
The unexpectedness of an unplanned positive financial event makes it feel like you’ve found a hidden treasure or won the lottery.
Unplanned Positive Financial Events
The problem with windfalls is that most people immediately focus on the benefits they can get right now rather than the long-term benefits. I have experienced many unplanned positive financial events in my life.
As a result of my time in the private security industry, I have received several legal settlements from class action lawsuits. Many of them I was completely unaware of until the attorneys contacted me.
I have also received legal settlements from banks I previously used, such as Wells Fargo and Bank of America.
The money that came in was welcomed and put to use—but did I put it to good use?
Paycheck to Paycheck Mentality
My first employment bonus came after I had joined a boutique public relations company in Marina Del Rey, CA.
I started working for the company in mid-June, and in early December, I received a $400 Christmas bonus. For the next three years, I received Christmas bonuses ranging from $1,000 to $5,000 each year.
At the time, my then-wife and I had moved to a bigger apartment and had two car notes. We had one child and were expecting our second.
The money came at a good time. But remember how I said, in hindsight, I would do things differently? I wish I had the benefit of the knowledge that future-me possessed at the time.
We didn’t save the money. We didn’t invest the money. Instead, I paid off my wife’s three department store charge cards, and we used the balance to go crazy for Christmas.
We once spent over $2000 on Christmas gifts for our kids and my in-laws. We did this because we knew I would get a Christmas bonus every December.
If we had planned, we would have used the money to pay off the old debt. This would have been particularly beneficial to us because we were thinking about buying a home at the time.
Once we eliminated old debt, we could have put the money in high-interest savings accounts until we were ready to use it. But we weren’t thinking about the future so much as we were seeking instant gratification.
Four years later, the company was purchased by a more prominent public relations agency. As a qualified employee, I was entitled to profit-sharing from the sale of the agency.
This money was to be paid out over four years until the purchase was complete. All I had to do was remain an employee until all funds had been disbursed.
This meant that my Christmas bonuses were reduced to a few hundred dollars, but every July I received a disbursement of the profit-sharing funds.
Over the next four years, these annual payouts grew exponentially, ranging from $ 7,000 to $47,000. This was on top of my salary, which was about $75 USD per year at the time.
Had I used that money and my salary in a way that would have benefited my future rather than my present, I would be in a different financial situation today. But you live and you learn.
Or do you?
Theory vs Reality in Financial Planning
There are two sides to every story, and the main problem with each is the emotion it brings. When we look at Financial Planning in theory, it is devoid of any emotion. However, some financial strategies do take an emotional mindset into account.
For example, there are two debt elimination methods: the Snowball Method and the Avalanche Method. The Snowball method is the fastest and most efficient method to pay down and pay off all your debt.
However, the consequence of using this method is that it usually takes longer to pay off the first debt.
The Avalanche Method is the least efficient way to pay off or pay down debt. However, it enables the individual to see results faster. Employing this method, the user gets an emotional “win” very quickly.
The theory is that this small success creates momentum to go the distance.
The Drain of Emotion on Financial Planning
However, most financial plans don’t consider emotion. Most strategies do not account for the feelings of a woman who suddenly inherits a large sum of money and wants to do something special for her children, spouse, or parents.
It doesn’t take into context the person who has been living in a cramped studio apartment, surviving off ramen, beans & rice for two years, and now wants to move to a better apartment where he can’t hear his neighbors fight at two o’clock in the morning.
It’s not that the person doesn’t realize that other financial obligations exist. Most often, he or she is fully aware that the windfall falls short of eliminating all of their financial problems.
However, the chance to obtain just a moment of peace, a moment of serenity, is intoxicating.
For me, transitioning from being a stay-at-home dad to being a divorced dad with half custody of four children was my emotional drive. My children’s world was shattered when they lost the comfort of having two parents at home.
They were forced to shuffle between two residences, and I made it my mission to add some stability to their lives.
Being newly single had less effect on me than it did on my ex. I focused on not introducing any additional variables and simply being 100% there when my kids were with me.
My kid’s mom chose to explore her newfound singleness.
Instead of going out on dates, I dated my children. We often went out to eat and to BBQs. We went to the park.
I took them to all of their doctor, dentist, and orthodontist appointments. I put my life on hold for them. I felt I owed it to them.
Three years later, when my independent producer partnership with the Independent Film and Television Alliance (IFTA) and NBC Universal proved fruitful, I relished the thought of spending my new financial windfall on my children.
The money was good. I had two development deals with NBC Universal totaling five figures. There are few things more exciting than receiving a check written by a top television network.
I mishandled the money. Most of my actions continued to follow the same paycheck-to-paycheck mentality. The money should have set me up reasonably well by – if nothing else – making me debt-free. Instead, I squandered it.
A year later, I had to borrow money to fly from LA to North Carolina when my sister passed away. I hadn’t paid off my debts. I hadn’t invested. I hadn’t started a business. I hadn’t put money away for my kid’s college tuition. I hadn’t even traveled.
Learning from Your Financial Past: Best Ways to Use A Financial Windfall
Now I know exactly what I would do and will do when I experience my next financial windfall. I have undoubtedly learned from my mistakes.
Below are the Top Seven things you should do with a financial windfall:
- Strive for Debt Freedom – The main thing I didn’t do with my financial windfall(s) was the one thing you should always do with a financial windfall. That is, formulate a plan to get out of debt (become debt-free) as soon as possible. You cannot truly save money when you owe money. The first thing you should do is pay off or at least pay down high-interest debt.
Department store charge cards and credit card balances can have double-digit APRs. These creditors are essentially stealing your hard-earned money. Making the minimum monthly payment will only cause your balance to balloon. Using the windfall to eliminate the debt or to take chunks out of the debt. This will help you save massive amounts on interest charges. - Determine Tax Obligations – in many cases, federal and local taxes may be withheld from your windfall. If taxes aren’t withheld, you should speak to a licensed or certified tax consultant to understand your tax liability. Set that money aside and pay ASAP.
- Give Yourself a Small and Fixed Budget for “Fun” – Set aside anywhere from 5% to 10% of the windfall to use for relaxation, entertainment, shopping, gifts, etc. You can essentially use this money for anything, but when it’s gone, you’re done. I suggest opening a separate online checking account to receive a debit card.
This is your “fun” account. Move the money into the account and use the “Fun” debit card to enjoy yourself, monitor your spending, and be accountable. Look for ways to make your money go further by finding sales, earning points on your purchases, or securing money-back deals. - Create a Flexible Emergency Fund—depending on the size of your windfall, consider establishing one. The Emergency Fund should be equal to three weeks to three months of expenses, minimum. If possible, set aside up to six months of expenses in a high-yield savings account. You can find a lot of these accounts through online banks and credit unions.
- Invest Your Money – take a large chunk of the money and set it aside in an investment account. Go to your bank for assistance or seek help from a trusted financial adviser. Many online investing apps allow you to get started with fractional shares for as little as $5. Typically, investing means putting your money into the stock market, bonds, mutual funds, exchange-traded funds (ETFs), or some other financial instrument. Investing in the stock market is not the same as gambling on it.
Day Trading is gambling. When you invest, you are expecting your money to grow over time. Typically, investments remain in place for 5, 10, or 20 years. Day Trading is just that, days; sometimes the “investment” lasts mere hours. Increasing your 401(k) contribution or opening an IRA or a 529 plan is another way to invest in your future (retirement). You can also use some of your investment funds to make additional payments on the principal balance on your mortgage. - Make a Simple Financial Plan – Before you start spending willy-nilly, write down some ideas of things you hope to accomplish with the money. This needn’t be a funky Excel spreadsheet with pivot tables or a pie chart. Write down your general thoughts. Better yet, type it up on a computer, print it out, and hang it on a mirror or a refrigerator. Seeing your goals often will help them appear real. Also, it will keep you from forgetting anything.
Another benefit to this process is that you will easily differentiate between your short-term and long-term goals and plan accordingly. Feel free to add items or cross things out as needed. This is your money; the only thing that matters is what you want to do with it. Consider updating your goals and putting the bulk of the money toward your long-term financial plan. This way, you can speed up the process and reach your goals much more quickly. - Create a Will or Estate Plan—if you already have one, great. If not, receiving a large windfall may warrant an immediate visit to your lawyer or estate planner. This plan allows your money to be distributed exactly how you want it should anything happen to you. It also smooths the transition of wealth distribution among your grieving heirs.