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I Just Got A $5,000 (or $10,000 or $20,000) Bonus At Work, What Should I Do With It?

January 1st, 2013 | Posted by JG in Investing | Saving Money

Some of us are fortunate enough to get some sort of bonus from our employer during the year.  For illustrative purposes I’ll use $5,000.  I know, I know, a few readers will be thinking, “I have watches that cost way more than $5,000, that’s nothing to me!” and others will be thinking, “I can barely get a pat on the back at my job, I WISH I could get a bonus!”  Either way, read along, as one day you might want constructive ideas for what to do with a monetary reward.

$5,000 is an arbitrary, simple-enough number to use for this exercise.  If you’re receiving more or less, adjust the percentages up or down accordingly.  Hopefully this post will shed some light on what to do (and what not to do) with some extra cash, as well as a few things to consider before you actually get the money deposited into your account.

Cashinabox

No matter where you work bonuses aren’t guaranteed

In Kanye West’s, “All Falls Down,” he talks about spending it before getting it.  The idea that people spend based on a belief that a certain amount of money will hopefully come their way isn’t usually a great idea.  Anyone with a pulse over the last four years knows that nothing is certain in the workplace.  Whether you’re an investment banker, engineer, or ice cream scooper at Baskin Robbins, nothing is guaranteed.  There are thousands of people on Wall Street that have seen their bonus cut by as much as 75% less than 30 days before they were supposed to receive it.

It’s important to have an idea of what you might do with the money, but not execute any purchases until it arrives.

Bonus payments are taxed differently…not in a good way

So you’ve just gotten the word that your bonus will be included in next week’s paycheck.  You’re pumped up and excited to see a big ole’ number on your paystub.  When you finally see the number that dropped into your account you realize that it is a lot smaller than you imagined.

Here’s why.

Bonus payments are considered “supplemental income” by the IRS.  Since these payments are typically lumped in with your regular paycheck, the amount is often annualized and taxed accordingly.  If that didn’t make sense let me give you an example.  If you get paid $3,000 a month but in December you get a $10,000 bonus, you will have earned roughly $13,000 for the month.  When that figure is annualized, it looks like you’re making $156,000 per year! ($13,000 x 12 months).  This will obviously put you in a different tax bracket for that paycheck, hence heavily taxing your bonus.  Don’t forget that most employers still remove a certain amount for your 401k, further reducing the exact amount you receive in your account.  Don’t fret too much.  When you file your taxes, the IRS will see how much you actually made in the year and credit you accordingly.

When I am fortunate enough to get a bonus, I assume that I’ll only take home 65-70% of it.

Treat yourself with something modest, but then keep it moving

I get it.  A bonus won’t really feel like a bonus unless you take some of the money and do something fun with it.  If you come home with an extra $5,000, go spend $120 on a nice dinner for you and a close friend or significant other and even go out and buy some new running shoes for $100.  After that, stop.  Your financial planning should be around your base salary, not what you think you’ll make in the future.

Have debt?

If you have any kind of high interest debt (i.e. credit cards), I strongly recommend putting your bonus towards reducing or eliminating the balance.  I know it’s not fun, but paying double digit interest can hold you down for the rest of your life.

What I do with any bonus money (when I’m lucky enough to get it)

For the purpose of this article, let’s PRETEND that after taxes I walked away with $5,000.

BonusChartJG

*Note: If you have credit card debt, put the bulk of it towards the balance, put $500-$1000 into your savings, treat yourself a little and be done with it.

Why?

High-yield savings – Down payments on homes and cars don’t come cheap! There is a good chance that you’ll need a large chunk of change a lot sooner than you think.

Personal Investing – There are many great companies and funds that you should be investing in! A lot of folks complain about not having a little extra to invest, so here’s your chance.

IRA (preferably a Roth IRA) – Currently, you’re allowed to contribute $5,000 per year into an IRA.  Bonuses are good opportunities to fund part of this account without feeling the pain of moving money from your regular paycheck.

Short-term savings – Your car will break down or get towed when you least expect it.  A good friend will surprise you and get married which will require a $350 plane ticket + gift.  These are things that will pop up and you’ll be happy that you steadily put a few hundred dollars periodically for one-off events.

Donate -  If the good people of the world don’t put their money into causes they care about, no one will.  One can give of their time or their money.  If you’re a busy person, just write a check.

Quick plug: If you’re passionate about getting young people interested in Science Technology Engineering and Math, consider donating to my friends’ non-profit, Project SYNCERE.  They are expanding their reach from Chicago to Atlanta.

http://www.indiegogo.com/projectsyncere?c=pledges

Treat yourself- For whatever reason, if someone decided to give you a bonus, there is a good chance that you’ve earned it.  I think it’s important to do something meaningful to celebrate the accomplishment.  If you have a boyfriend/girlfriend/spouse that has had to put up with you coming home late from work or being grumpy, why not take him or her to dinner?

Conclusion

If you’re fortunate enough to be asking yourself what to do with a bonus, pat yourself on the back, you’re probably doing pretty well.  If you take nothing away from this post, remember to pay yourself first! Don’t let the mall be the main beneficiary of your hard work.  No one ever regrets putting money away for the future.

What do you all do with your bonus?

~

JG

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4 Responses

  • Tom says:

    In many ways I follow the same method. If it hasn’t been fully funded for the year, my Roth IRA is the first place it goes. Since we already have the whole “emergency fund” ready and waiting for the one-off life events, plus we keep a 3-month expense cushion in high-yield savings/low risk bonds, retirement funding is the best place for it to go. Since my employer does not offer 401k matching, there is no incentive for me to fund my 401k before the Roth IRA.

    I agree with the small treat for yourself/family but don’t be extravagant. Additional investing – especially if you’re in your 20′s-30′s can go a long way. DEFINITELY do something charitable. Even if you contribute regularly to good causes, make additional donations with some of the additional unexpected income. Not only does it give you a warm, fuzzy feeling about helping others, but there are income tax benefits as well!

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  • Steve says:

    All in savings

  • Dina says:

    If ever I get that amount of bonus, half of it will go to savings and the other half for high interest debt. How I wish I can get that amount of bonus from my online work :)