Money can come from many places. Sometimes its arrival is purely positive – a gift, a lottery win, or an unexpected promotion, raise, or bonus – or even a tax refund! Other times, money can come from more inauspicious circumstances, like severance pay or an inheritance.
The source of the unexpected income might influence how you want to spend it. You may decide to splurge on an all-inclusive holiday to a tropical paradise. Alternatively, you could choose to donate your money to charity. Whatever the source, there are many things you can do to make sure you get the most out of your money.
Here are just a few:
Plan
Before you start spending, think first. What are your goals? How much would you theoretically like to make, and in what time frame? What’s the smartest way to achieve your goals? At this stage, it’s likely best to place the money into a savings account so it can gain interest while you ponder your options. You may also want to enlist a financial advisor to help you develop your plan.
Is your income taxable?
Depending on the source of the income, there may very well be tax implications. You should consider the origin of your money and where you might spend it, to make sure you keep the ATO happy and avoid a hefty bill during tax time.
Many categories of income are exempt from taxation, including government allowances as well as some educational scholarships, grants and awards.
Other categories of income aren’t exempt, but they are non-assessable, meaning that although they may be considered in other calculations, you don’t have to pay tax for them. These include: the tax-free component of an employment termination payment (ETP); super co-contributions; and redundancy payments.
Generally, you don’t need to declare small, personal cash gifts, or most ordinary lottery and game show prizes. However, income from a large gift, or a gift received as part of your business activities, is indeed taxable.
It may be tempting to not declare this but data matching tools are powerful and a large sum of money appearing in your bank account may raise a flag with the ATO. Now that you have some extra cash, you will want to avoid unnecessary expenses such as additional accountant fees in the event you are audited. Being audited by the ATO is not only a costly process but can also be a lengthy one. To avoid these costs, don’t take unnecessary risks on your tax returns and ensure you are submitting them accurately.
Regardless of the source, you must “declare all income you earned anywhere in the world.” The ATO is good source of information and you can direct your tax questions to them. However, you may also want to get advice from a professional tax consultant or your accountant on if they offer audit insurance to protect you against the additional fees in the event that you are audited.
Clear outstanding debt
Any outstanding debt you may have should be a priority. If you have many different sources of debt, tackle the ones with the highest interest rates first.
Credit cards tend to have exorbitant interest rates, so you should ideally pay them off every month. If you have incurred some credit card debt, you should clear this first. Even if you can’t pay off the entirety of the balance, every extra payment helps.
Next on the chopping block, you should tackle any lower interest debt like car loans and mortgages. Some argue that it’s wiser to invest than to pay off these lower interest debts because the dividends from successful investment will outweigh the debt sustained from the low interest rates. But investments are never a sure thing. It’s better to be debt-free before risking any additional money.
Build an emergency fund
Saving for a rainy day is an age-old concept, but it remains an elusive one. As many as 50 percent of Australians live payday to payday, meaning half the population is one emergency away from financial ruin.
Just because you’ve recently had some good luck, or even if you’ve enjoyed reasonably good luck your whole life, there’s no guarantee it will last. If you have an emergency fund in a high-interest savings account, you’ll be better able to deal with any unexpected life events like temporary unemployment, surprise home or car maintenance, or any other unforeseen bills.
The amount you should place in an emergency fund depends on your individual needs, but a good metric is to think about your total expenses – that’s total expenses: rent, insurance payments, food, utilities, entertainment budget, and any other expenditures – for three months and use that amount as a starting point for your emergency fund.
Of course, three months’ worth of savings is only the start of your emergency fund. The goal should be to increase this amount up to six months’ worth of money and beyond. Before you can build up any real wealth, you need to have enough to cover the basics.
Invest
Now that you’ve considered taxes, debt, and an emergency fund, you can get into the more exciting opportunities.
Regardless of your age, career stage, financial security, and interests, it’s never too early to start building an investment portfolio.
Your superannuation account is one of the safest places to invest money and should be a priority. If you want to retire in style, your employer’s contributions probably won’t be enough. Investing in your super usually means lower taxes and higher returns, since the money is inaccessible until your retirement. After retirement, you can continue contributing to your super and take funds out as needed.
Once you’ve contributed to your super, you may want to start considering more diverse options.
Exchange traded funds or ETFs don’t require large investments and in most cases are fairly safe investments. You don’t have to choose the specific assets; you simply invest in the general fund. These are higher risk than savings accounts, but also have much higher potential returns. You can buy and sell these funds just like shares on the stock exchange, so ETFs are a good introduction to investment. Despite the relatively low risk, it’s still a good idea to consult a stockbroker to make sure you make wise choices.
Once you’ve experienced some success with ETFs, you may want to graduate to even riskier investments on your own. Just make sure to consult the experts, do your research, make astute choices and mitigate risks.
You may also want to make more concrete investments. Depending on the size of your windfall, this might be the right time to buy property. Even if it’s only the first down payment, it still might be the first step to great returns. Just make sure you have a long-term plan to make the remaining payments, so that this investment doesn’t end up being another source of debt.
Donate to charity
A charitable donation is a great way to make positive change with your money. When you pay taxes, you have little to no control over how the government spends your money. With tax deductible donations, you have greater control over the target of your financial aid. This feature can be particularly significant if your windfall came from an inheritance; donating to the right charity can be a meaningful way to remember your departed loved one.
Before you chose a charity, it’s best to do some research to discover which are most effective. The Australian Charities and Not-for-profits Commission website has a list of registered charities that all operate to rigorous financial and ethical standards.
Charitable donations are only tax deductible if they have been named a “deductible gift recipient” by the ATO. You simply need to claim the donation on your tax return for the same year in which you made the donation. If you make a large donation, you may be allowed to spread the deduction over five years.
Invest in yourself
This is an investment that can’t be taxed, and can pay dividends for life. So far, we’ve focused purely on money. But your greatest asset of all is yourself. How much potential do you have? How much more could you be earning if you furthered your education or got that extra credential? If you have some newfound financial freedom, you can consider finishing that degree, getting that licence, or even starting your own business.
American billionaire investor Warren Buffett agrees. “Ultimately, there’s one investment that supersedes all others: Invest in yourself,” he told Forbes Magazine. “Nobody can take away what you’ve got in yourself, and everybody has potential they haven’t used yet.”
This extends to your physical health as well. You’ve got some extra cash in your budget, why not finally take those yoga classes, or get that gym membership you’ve been thinking about? If you’re physically fit, you’ll be in much better condition to enjoy your financial health.
Have some fun
You’ve made a financial plan, paid off debts, given to charity, and made shrewd investments in your finances, health and education. These decisions have given you peace of mind because it pays to be prepared. Now, why not treat yourself a little?
Buy that new TV, get yourself some new shoes, or update your wardrobe. Better yet, spend your money on new experiences with friends or loved ones.
Studies show that people are much happier when they spend money on experiences rather than material things. People also become more deeply connected when they share in experiences.
If you and a friend take a surfing trip, hike the Blue Mountains, or go island hopping in southern Thailand together, you’ll forever be part of each other’s stories. Those experiences will be far more meaningful than if you both buy matching watches. So if you can afford it, take that trip, broaden your horizons, and make some memories. You’ve earned them.