This past December, I was blessed with a small year-end raise. Now I am faced with a whole new set of challenges: More tax. More cash flow. More guilt about not keeping up with my retirement plan. I had hit the ripe old age of thirty-something where you ponder more about your future, so I wanted to know what I should be doing with the money.
What did you do with your last raise? I bet it just flowed into the bank, and flowed out again, on lunches, new shoes or theatre tickets. Hey, that’s not all bad. Having fun is a part of life. And since we all work hard, we deserve the small treats we give ourselves. The thing about money, though, is that we spend as much of it as we have. And often the only way to not spend it all is to hide it from ourselves.
What will you do with your next raise? Here are 5 ideas that won’t take all the fun out of having a little more cash flow, but will put at least part of your new-found wealth to good use for the future.
1. Save Some
It’s too much to ask most people to take their raise and bank it. But how would you warm to the idea of saving half? That’s not quite so bad, is it? Let’s say for example, with my $400 a month, if I saved half from now until I retired and earned just 9 percent return, I would have accumulated over $440,000 by the time I turned 65. That works out to $76,800 in savings and over $363,000 in pre-tax compound return. Now, doesn’t saving some seem like a worthwhile compromise?
2. Increase Your RRSP/401K Contributions
If you took that $200 and stuck it in an RRSP/401K, not only would you not have to worry about paying tax on your return until you pulled the money out during retirement, but you’d also end up saving on your taxes. A $2,400 a year contribution to an RRSP/401K at a marginal tax rate – the rate of tax you pay on the last dollar you earn – of 33 percent will net you a tax saving of $792. You can use your tax refund to fund other savings, take a trip or buy something completely luxurious. After all, at this point, it’s the tax-man’s money you’re spending, right?
3. Remember the Tax-man
When your boss announces your raise, be careful not to count your chickens just yet. It’s easy to look at an eight percent increase and think, “Neat, $400 more a month.” But that’s $400 gross, my friend, and the tax man will always get 1st dibs.
There are ways to reduce the amount of tax deducted at source, particularly if you go to school part-time, pay for child-care or are caring for a dependant who is 18 or older. The trick here, if you haven’t already done so, is to adjust your Personal Tax Credits Return form, which you completed for your employer so that less tax is deducted at source. By doing so you don’t end up giving an interest free loan to the government – everyone else calls this a “tax refund.”
4. Pay off all Debts
Of course, saving all or part of your raise only makes sense if you’re not carrying any debt. If you have a balance on your credit card, if you’ve drawn on your line of credit, if you’ve got a loan outstanding for your car, if you’re still paying your education loans or if you’re still paying off a consolidation loan taken to correct past misjudgements, your FIRST PRIORITY SHOULD BE TO PAY THOSE OFF.
Make a deal with yourself: “Self, I’m gonna plough my entire raise into my credit cards for the next eight months. Once they’re paid off, I’m gonna buy myself (fill in your desire here) and pay for it with cash!”
The WORST thing about paying interest is that it’s costing you way more than you think. If you’re carrying a balance of just $2,500 on your credit cards, and paying 17 percent interest, that’s costing you $425 a year in after-tax dollars. So you’re working really hard to support the taxman and the credit card company, but you’re doing yourself a huge disservice.
5. Take Care of the Details
There may be a bunch of financial details you’ve been avoiding because you convinced yourself you couldn’t come up with the cash.
Making a will may cost you a couple month’s worth of your raise. Getting disability insurance will make sense with your increased cash flow. Or perhaps you’ll want to use part of your new income to begin contributing to a Registered Education Savings Plan or in-trust account for your children’s future education.
If you’ve been using the excuse of not having enough money to do something you know you should, now’s the time to face up and make some progress on your Things-I-Just-Must-Do list.
A new raise is a great opportunity to fix what’s broke, be it your lack of insurance, your under-funded retirement plan, or your over-utilized credit. But it’s not going to happen by itself. Incorporate your raise into your cash flow even for a couple of weeks, and in no time it will be part of your expenses. Make some plans for putting it to good use today, and you’ll have a lot to show for your good judgement in the future.