Bravo! Everyone wants to make more money, and you’ve managed to do just that. Whether you received a raise or took a higher-paying job, a salary increase is something to celebrate.
It’s also something to evaluate within your larger financial picture. That way, you know what to do with your additional cash.
Here’s what to do when you get a salary bump.
1. Determine your new take-home pay
It’s too easy to fall into the “earn more, spend more” trap known as lifestyle creep. Extra spending could easily surpass your additional income — and that’s before you even see most of it.
“People will say, ‘Well, annually, I’m going to make this much more,’” says Autumn K. Campbell, certified financial planner at The Planning Center in Tulsa, Oklahoma. “Well, that’s from one year after the time you got the raise,” she says. In that time, she adds, “we can learn habits that are tricky to get out of.”
Before building such habits, get a reality check by calculating how much more you’ll make in the shorter term. “We need to talk to ourselves in real numbers,” says Lynn Ballou, CFP and senior vice president and partner with EP Wealth Advisors in Lafayette, California.
Say you were making $50,000 and received a 4% increase, or $2,000 over a full year. Divide that $2,000 by 12 for about $167 per month. If you’re paid every other week, divide $2,000 by the 27 pay periods expected for 2020, and you’re looking at $74 per paycheck.
This math doesn’t account for tax withholdings and deductions that chip away at your take-home pay. (Scrutinize your paychecks to calculate that amount.) But having a rough figure for this extra income does help you figure out what to do with it.
2. Check your financial picture
To identify opportunities for your extra income, first take stock of your cash flow (incoming and outgoing money), as well as savings, investments and debts. Depending on your situation, these questions may help you think about next steps:
Are you meeting basic needs?
Consider food and shelter. If you’re facing overdue bills and shut-off notices for utilities, those payments should be a priority, says Campbell, who is also the president of FPA NexGen, a professional group for young financial planners.
Could you cover an emergency?
Emergency funds help prevent you from taking on debt if — actually, when — you face unexpected expenses. This is a smart time to start the fund if you don’t have one, Ballou says.
Ideally, the fund could cover a few months’ worth of living expenses, but it’s OK if you can’t swing that. Just build a buffer. For example, perhaps you set up automatic monthly transfers of $50 from your checking account to a high-yield savings account.
Do you have high-interest debts?
These are debts with interest rates around 20% or higher and could be from credit cards, personal loans or payday loans. They can hinder both your current and future finances. “It’s very hard to plan long-term if our short-term needs are in flux or being stretched,” Campbell says.
Sound familiar? Identify your debt strategy and consider using some of your additional income to pay it down.
Could you put more toward goals?
Use this opportunity to check on your financial goals, Ballou says. (Or identify a few, if you don’t have any.)
Say you’re aiming to retire with a certain amount saved. Consider contributing more to your 401(k), a tax-favored retirement savings account offered by some employers.
Other goals may lead you to put more earnings toward a down payment or vacation fund, or toward your student loans. Or perhaps this is the time to buy life insurance or contribute to a 529 plan for your kids’ college savings.
3. Reward yourself
Celebrate your raise “in a way that honors your hard work and also moves you forward in life without the stress of spending it and never really getting ahead,” says Lazetta Rainey Braxton, CEO and founder of Financial Fountains, a financial planning firm in Baltimore, and president of the AAAA Foundation, which helps cultivate the next generation of African American financial planners.
To pull this off, give yourself the “gift of time” rather than something that costs money, Ballou says. Spend an afternoon hiking or digging into a book, for example.
If you do spend money, Braxton suggests setting boundaries, such as a spending limit equal to the increase you’ll see in one or two paychecks.
Before spending, try to wait a few weeks or even months. By that time, you’ll have paychecks that show exactly how much more you’re taking home — and hopefully you’ll have cooled on any impulse-purchase ideas. After all, “there’s no rush,” Campbell says. “It’s not like the money is going to disappear.”