Smart Steps to Take With Your Financial Windfall

Getting a windfall can be a dream come true, whether it comes from one of your money-making ideas, a large bonus from work, an inheritance from your parents or a court settlement. But when you receive an amount of money that you consider life-changing, you want to be smart about how you handle your money.

Some windfalls might allow you to splurge just a bit and pay down some debt, while others could alter the remainder of your life. Here are smart steps to take to ensure you don’t squander your windfall.

The first thing to do to protect your financial windfall is not to make any impulsive decisions. You might feel financially invincible depending on the size of your windfall, but one bad decision can cost you your newfound wealth.

“The best thing you can do when you experience a windfall is to stop and do nothing,” said Megan Gorman, managing partner of Chequers Financial Management in San Francisco and author of the blog The Wealth Intersection. “So often we feel that when we experience something, we need to react in the moment. But usually that works against our long-term goals.”

Park the money in a safe place while you’re deciding how to ultimately invest and spend it.

“You want to keep things safe while you are making decisions,” said Gorman. “As a result, look to keep the holdings in cash. You should be aware of (Federal Deposit Insurance Corp.) limits and if need be, keep the holdings at more than one bank.”

FDIC limits cover to up to $250,000 per person per covered account type. For example, if you have $200,000 at Bank A and $230,000 at Bank B, both accounts are fully covered. But if you only have one account with $430,000 in it, only the first $250,000 is covered.

Though it’s your money and your call on who you want to share your newfound wealth with, advisors recommend keeping the people who know about your windfall to a minimum. Richard Prinzi, Jr. CPA, owner at Limelight Management Services, Ltd., said that the best intentions are often misguided and that the more people who know, the more people who can come asking you for money.

“Wealth is a private affair. You have no obligation to share with anyone. It is best to keep all numbers close to the vest,” said Gorman. “If people ask probing questions, you can always default to saying that your attorney or CPA or planner has advised you to keep it private.”

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Depending on the size of your windfall, you might need to build a team to help you make the best decisions for your money. If you’re receiving several hundred thousand dollars — or more! — you’ll likely want professional help managing your money. Gorman recommended asking your financially successful connections about their experience with various advisors and building a team that includes an attorney, accountant and a fee-based planner.

“The best way to find them is interview a few and compare,” said Gorman. “Ask them all the same questions. You want to avoid the ambulance-chaser types. Keep in mind the best advisors are often the most quiet and direct versus flashy and making big promises. And when you consider investments, always ask how they are compensated.

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Depending on the source of your windfall, you could be required to share some of it with the government.

“Inheritance is generally not taxable to the recipient on the federal level but can be taxed at the state level (if you live in a state with an inheritance tax),” said Michelle Herd, CFP, senior client advisor with TFC Financial Management in Boston.

“Compensation you receive from your employment will most likely be taxed as income (even if it is a bonus),” said Herd. “The taxation of a court settlement will vary by type and the state you live in, but lottery and gambling winnings are always considered taxable (at least on the federal level).”

Until you’ve determined how much of the money you’ll get to keep after taxes, and the cost of the lifestyle you want to live going forward, don’t quit your job. When you figure out how much income you’ll still need, then you can consider whether to keep your job or if you can find other ways to earn money.

Plus, quitting your job can mean losing more than your salary — you also need to consider benefits like health insurance and the social interaction your job provides. If you don’t need a full-time job, you can look for ways to make extra money outside of a traditional 9-to-5 job.

Before you can determine what needs to go into your financial plan, you need to determine what your priorities are. Depending on how you define windfall, you might now be able to do things you never thought you could afford.

“Dependent upon one’s existing overall health and financial well-being and the amount of the financial windfall, there are many viable possibilities,” said Roger R. Bell, II, an experienced financial planner with Roger R. Bell & Company, Inc. He suggested options that include studying abroad, endowing a scholarship, or financially or personally supporting a cause that means a lot to you.

Whether you choose to work with an advisor, you should create a plan for how you will save and spend your windfall. As you build up your investment portfolio, you can create residual income from the returns in the future. However, that doesn’t mean you can’t splurge a bit.

“Of course you can have a fun splurge! Money and financial planning isn’t all strictness and budgets,” said Gorman. “You need to find enjoyment in some of the things money can help with. The key is moderation. As in all financial planning, you need to prioritize — is it buying a sports car or taking the entire family to Disney World?”

As of 2017, the federal estate tax exemption is $5.49 million per person before estate taxes kick in, so only the largest of amounts that fall within the windfall meaning will cause you to have a taxable estate. However, that doesn’t mean you can ignore revising your estate plan.

As your estate grows, you might wish to include additional beneficiaries or charities. Or, you might wish to put more restrictions on how your beneficiaries can spend the money.

If you are charitably inclined, talking with an advisor can help you maximize the tax breaks you receive for your kindhearted donations. Depending on the size of your inheritance, you might consider creating a private foundation.

“Charity is an excellent way to avoid some tax, but consider a private foundation so you will get the tax benefits and develop a fund to diversify over many years — and after investment income is added,” said Prinzi.

If your windfall isn’t quite large enough to justify a private foundation, consider a donor-advised fund, which functions similarly but doesn’t have the overhead expenses or as much legal paperwork as a private foundation.

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