There’s a good chance you’ve imagined the many things you’d do if you suddenly came into a sizeable financial windfall. You may have daydreamed about a round-the-world trip, paying off your mortgage, or buying a top-of-the-range car.
If that time came, however, it’s possible you’d feel slightly overwhelmed by the options available to you.
While it’s unlikely you’ll win big on the lottery, there’s always the chance you’ll come into a considerable windfall of cash from an inheritance or a winning Premium Bond. Even your tax-free lump sum drawn from your pension could be a substantial sum.
No matter where it comes from, there are some common pitfalls to avoid when you come into a considerable windfall. Continue reading to discover what they are.
1. Avoid the usual traps
When you unexpectedly come into a windfall, it’s easy to see this as “free money”. As previously mentioned, you may have many luxurious purchases in mind with your new-found wealth.
Of course, you shouldn’t entirely deny yourself some fun, though it may be worth avoiding frivolous spending at first.
Before using your new cash, it may be worth sitting on it and waiting until you’ve decided where it would be best spent. You could enter a “decision-free zone” for a few months to a year until you’ve considered your options.
2. Have an in-depth think about your financial situation
Since it’s so easy to feel overwhelmed when you come into a large windfall, it may be wise to closely examine your financial situation, think about your goals, and devise a plan for how you might reach them.
Consider your financial milestones and how close you are to achieving them. Then, you can think about the different ways you could use your new windfall to help invest in your future.
It may be prudent to draw up a list of the things you want to spend your windfall on – such as a new car, a gift to family, an early retirement or a property purchase – then build a clear picture of your short-, medium- and long-term goals.
When you do so, you can discover which are within reach, and which could be attainable with careful money management.
It’s also important to keep Inheritance Tax (IHT) in mind, as your new windfall may have pushed you above the £325,000 tax-free threshold. You may also have to consider how to mitigate a potential IHT liability in the future.
3. Decide how much you want to save and invest
Now could be the time to decide how much of your windfall you want to save in cash, and how much you want to invest.
If you have many short-term goals, such as buying a new car, it may be worth holding some of your windfall as cash in a savings account so you can access it easily.
Though, it’s important to note that inflation can erode your savings’ purchasing power in real terms if the cost of living is rising faster than the interest you receive on your savings. So, you may want to avoid saving your entire windfall as cash.
Instead, if you have medium- and long-term goals in mind – typically five years away or more – you may want to invest part of the amount. This provides the opportunity to grow your wealth over the coming years and even decades.
By investing instead of saving, your windfall could potentially grow more, and it could even outpace inflation.
Remember that equity investments do not afford the same capital security as deposit accounts.
Investments carry risks. The value of your investments (and any income from them) can go down as well as up and you may not get back the full amount you invested. Past performance is not a reliable indicator of future performance.
It’s also worth noting that a large lump sum could complicate your tax position. For instance, you may pay more Income Tax, have potential Capital Gains Tax (CGT) issues on profits you make through investing, or face an IHT liability when you pass away.
4. Pay off any debts
Using your windfall to pay off any debts you may have can be a fantastic way to achieve financial stability. This can be particularly true for high-interest debts such as credit cards, as high rates often mean debt quickly spirals out of control if you don’t deal with it as soon as possible.
As such, it may be worth paying off your debts before purchasing any big-ticket items. Your windfall is the perfect opportunity to free yourself from debts – not only can this provide financial peace of mind, but you could also save money on interest payments in the long run.
5. Speak with a financial adviser
If you want to ensure that you get the most from your windfall, seeking professional advice can be one way to ensure peace of mind.
We can help you use your money to reach your financial goals and milestones, ensuring that you use your lump sum in a tax-efficient way that supports your long-term financial wellbeing.
We can also act as a “sounding board” to help you make important decisions, ensuring you’re confident about making the right choices to manage your windfall.
Please email us at firstname.lastname@example.org or call 0115 933 8433 to find out how we could help.
Levels, bases of and reliefs from taxation may be subject to change and their value depends on the individual circumstances of the investor.
The Financial Conduct Authority does not regulate estate planning, tax planning or will writing.