How to handle an unexpected windfall
We are often paralysed by the idea of investing, but becoming a successful investor starts long before you make your first investment. In this series of articles, Finweek draws up a road map to get you from financially flustered to investing with confidence. So far, we’ve helped you make sense of your payslip, discussed ways to supplement your income and had a look at your credit score. Visit Finweek.com to view all articles in this series.
From time to time a happy coincidence befalls us and we receive an unexpected cash injection. This is reason to rejoice, to be sure, but sadly not reason enough to indulge.
A windfall is any amount of money received unexpectedly, like a tax rebate, an unhoped for but well- deser ved bonus, a prize or a gift. Sadly, windfalls don’t come around often, but planning for potential good fortune should form part of a well-thought-out long-term f inancial strategy.
Should good fortune befall you today and you don’t yet have a plan, certif ied f i nancial planner Gerald Mwandiambira advises that you park the money in a notice deposit or money market account while you weigh your options. You are more likely to overspend if the money stays in your day-to-day account.
Once the money is safely out of your reach, Ilse Smuts of FNB Savings and Investments says that personal preference, risk appetite, minimumbalance requirements and f inancial needs all affect savings and investment
decisions. Below is a f ive-step plan to use as a starting point when deciding how to spend your windfall.
STEP ONE: STAY OUT OF JAIL
Before you s pend a cent of your windfall, Mwandiambira advises you consider t he ta x i mplications. “The most obvious cost of receiving a large amount of cash may be the tax implications of your sudden riches. Before going on your spending spree, consider i f the money is ta xable as income and make provision for this by setting aside tax,” he says.
If you’re not sure what t he ta x i mpl i c at i ons ar e , c onsu l t a ta x professional. It is a lot cheaper to pay an expert upfront than it would be to f ind the tax you owe at the end of the year.
STEP TWO: DEFEAT DEBT
Many South Africans struggle to f ind money in already constrained budgets to pay back debt. If you are indebted, putting your windfall towards paying off your debt should be your f i rst priority.
Says Sonia du Plessis, CFP at Brenthurst Wealth Management: “Start by paying off t he debt t hat has the highest interest rate. If [ you have] no short-term debt such as shop cards, credit cards or paying off a vehicle, paying an additional amount into a property bond can reduce the total amount paid for the property significantly and deliver a good return on the money, considering the total interest to be paid over the term of the loan.”
STEP THREE: EMERGENCY EXIT
“If you are fortunate enough not to carry debt, beef up your emergency fund,” Mwandiambira recommends.
Emergency funds are cash reserves to help you through difficult financial periods or to cover unexpected expenses.
STEP FOUR: SAVE OR INVEST
“You can use a portion of the money received to inject a lump sum into one of your existing accounts or you can spread it over your various accounts in order to give your balances a boost and reap rewards that are aligned to your savings and investment goals,” Smuts says. The i nvestment options you pursue depend largely on your unique f inancial situation, according to Du Plessis. She recommends considering the following three factors:
1. Your age, as it will determine the investment time horizon.
2. Your r i sk profile, which determines what t ype of investment is best suited to your needs.
3. Your personal situation. “The i nvestment decision will be different for married, divorced, single, young, midcareer or retired people. Each situation demands a dif f erent approach to investment and savings.”
STEP FIVE: TREAT YOURSELF Depending on the size of your windfall, you might not be able to pay off your debt, bulk up your emergency fund and invest all
SHOULD GOOD FORTUNE BEFALL YOU TODAY AND YOU DON’T YET HAVE A PLAN, PARK THE MONEY IN A NOTICE DEPOSIT OR MONEY MARKET ACCOUNT WHILE YOU WEIGH YOUR OPTIONS.