Q: This is the year I finally got that raise! What should I do with the extra money?
A: Beyond the money, getting a raise is a rewarding recognition that the work you’re doing for your employer is valued. It means you’re on the right path in your career. This should be one of many such events in your life where your hard work and dedication finally pay off.
Let’s not overlook the money, though. This can be a real boon to your financial stability. You could look back a year from now and see how much better off you are with a little more budgetary breathing room. It’s also possible that the money can blow right through your checking account, leaving you worse off than you were before you got the raise.
The difference between these two outcomes is planning. If you don’t have a plan for your new income, then it can be difficult to resist the impulse to spend lavishly because you “deserve” it. Making a plan to invest your new bounty responsibly will keep you honest and ensure you spend in ways that match your values. Here are three steps to making a plan for your post-raise finances.
Stay off the treadmill
If you started from the bottom, then you probably remember a time when you had little in the way of luxuries. You went to work, came home, ate whatever was cheap, and went to bed. As you started to pull yourself up, you might have added the occasional luxury: better food, a nicer car, some entertainment, or comfortable furniture. While the added luxury might have been a thrill at first, it probably soon became nothing more than the new normal.
This is what psychologists call the hedonic treadmill. With a greater salary comes greater lifestyle expectations. It’s impossible to get ahead if you’re always chasing the life you think you “ought” to have.
In a sense, all you’re doing by getting a raise is turning up the speed on the treadmill. You’re not actually making more progress toward your goals. To do that, at any level of income, you need to spend prudently, not emotionally.
So, when your first paycheck comes in, avoid thinking about things you “deserve.” Try to keep your non-discretionary spending or the amount of money you have to pay for basic goods and services, the same. If you want to take your family out to dinner to celebrate, that’s fine. If you want to buy a new luxury car to reflect your new status, that’s just running faster on the treadmill.
Fix the basics with your raise
There are three very obvious places to put your newfound money: paying down debt, building an emergency fund, and saving for retirement. If you don’t have an immediate plan for your new income, you could do much worse than putting your money in one of these three places. This isn’t a flashy way to spend your money, and it won’t make you happier in the short term. However, it will make your life easier in the long run.
Depending on the timing of your raise, you may need to make some paycheck adjustments. While you’re increasing your 401(k) contributions, you might also want to withhold a little extra in taxes. Your old withholding was done assuming you would earn your old salary all year. If you don’t bump up your withholding a little, then you might end up with a nasty surprise at tax time. That’s another reason to make tax-deductible investments in your retirement accounts. You’ll get to keep more of your hard-earned raise!
Save for your values
Getting a raise is a great time to pull out your dream list. What would you do if money was no object? Would you take a trip to Tahiti? Start a small business? Whatever your dream is, you probably need some capital to get it started.
Fortunately, you’re about to get some more capital each month thanks to your hard work. The best way to get to your “money’s no object” goals is to save a little bit each month. You can do that with the nice bonus offered by your raise. In the long run, you’ll be happier with the investment in your future than you will with the little luxuries you might be tempted to splurge on today.
Your Turn: What would you do with a little extra money each month? Let us know in the comments!
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