By Linda G. Stubblefield, CFP© 10/2/2020
Megan’s voice boomed out of the phone. “I’ve found a $2 biomedical stock that I think will explode! Do you think that is where I should put this money?”
“What money?” I asked while trying to dig out of my writing haze.
“The money I got from my uncle’s estate. It just came today! I had no idea I would be in the will!”
That’s what I call Found Money. Money comes to you outside of your normal income flow and is not in your budget. It is FOUND, not earned. Maybe it’s money you forgot about or it was gifted to you or you won a contest. Whatever. It sometimes creates an especially difficult dilemma. You have planned carefully where each dollar of your income goes. But you have no idea where to put this new found money! Pay off the debt? Put it in college savings? Book a European tour for the whole family? Hide it in the freezer? Buy a boatload of $2 bio-medical stock?
As a Certified Financial Planning Practitioner, I have advised clients through the complexities of the “Found Money” decision many times. This decision is not an answer; it is a journey. There is a logical progression and a list of questions that will get you to the right place.
- Is Your Cash Flow Negative?
If you take your annual income and subtract your annual expenses, do you have a positive or negative number? That indicates a positive or negative cash flow. Whatever it takes, you must determine to make this a positive number. Why is this the first question? Awareness of this fact – knowing your cash flow number- should be the basis of every financial decision. So, make this determination first. If your cash flow is negative, no matter where you put this money, you simply will be spending it to make ends meet.
“You will never be financially healthy unless you spend less than you make.”
Paste this on your refrigerator, your kid’s forehead, the inside of your eyeballs. Get this into your deepest subconscious so that it becomes second nature to you. Then, if washing your Found Money down the spending drain wasn’t what you had in mind, you will need to either increase your income or spend less money. There are no other choices. Your most important decision is how will you correct your negative cash flow.
Now you are ready to consider the next 3 items in our flow chart:
- Do you have Debt?
Debt creates a downward spiral in your net worth. If you have a negative cash flow, you are spending more money than you are bringing in. You use a credit card to finance your spending. Now your credit card minimum payments are increasing. What has just happened to your negative cash flow? It has gotten more negative! I talk about this at length in my book, Hidden Figures: Seven Numbers Women Must Know for Financial Success. If this is your situation, then stop here. This is your first stop for that newfound money. Get rid of the cash flow draining debt payments or past due bills. Positive cash flow gives you a greater capacity to save, more freedom and peace in your life! Use your Found Money and get to cash flowing!
- Is Emergency Fund Fully Loaded?
Maybe this is the reason you used a credit card. You had a car wreck and a high deductible on your insurance, an unexpected medical emergency, or your refrigerator broke down. These things happen to all of us. And they are not items in your spending plan (budget) after all! But they should be items prepared for in an emergency fund. If you prepare money in an emergency fund ahead of time, you won’t eat up your cash flow in the next emergency. So next stop for your new cash is a passbook savings account titled: EMERGENCIES ONLY. Your account should equal 3-6 months of your regular monthly bills.
- Do you need a Spending Fund?
A spending fund is a savings account accumulating money for an upcoming expense that will occur in three years or less. College expenses, down-payment, house remodel and car purchase all qualify. If you will need cash in less than three years, you shouldn’t risk the stock market. And because it is a known, upcoming expense, it is not eligible for the emergency funds. If you have something like this in your future, but no funds to pay for it, your found money should go here. Get this need checked off before you go further!
- Any Big, Outrageous Goals and Dreams?
If everything above is checked off: no outstanding debts, emergency fund fully loaded and next three years expenditures provided for, then WOW! what is on your bucket list? Once your responsibilities are checked off, I believe in spending money for a fabulous life that matches your highest goals, dreams and intentions. The way you spend money shows what is really important to you and should match your integrity. Maybe the best thing you do with that Found Money is check off a bucket list goal!
- Could This Be Long-Term Investment Money?
If you’ve arrived at this last question with cash still available, then you are looking to invest this Found Money in the stock or bond market. This is long-term investment money. You have one of two directions you can go: pre-tax or after-tax investments. If you are eligible to make contributions to an IRA or Roth IRA or a self-employed retirement account (in other words, you have earned income, but haven’t met your contribution limit for the year, then you should consider spending some of your gift money to make the contribution. Be sure you consult your tax advisor and financial advisor so see if you are truly eligible. If you are not eligible, or there is still money left after you contribute, you can invest in a taxable account. Choose a risk allocation that is appropriate for your age and your tolerance.
My friend, Meghan had received $50,000 from her uncle’s estate. Inheritance is a tax free gift, so no taxes were due. Per my usual procedure, I walked her through those six questions. Meghan had a positive cash flow, but she still had $5,000 credit card debt. We paid off the debt, leaving her $45,000. After recalculating her need for 6 months of emergency funds, we discovered she was $8,000 short. We added $8,000 to her existing emergency fund. Now, $37,000 left.
Regarding a spending fund, her children’s college was 6 and 9 years away. Their college savings plans were appropriately funded to date. Therefore, no money was spent for a spending fund. But her big, outrageous goal had not been checked off: take her mother to Hawaii. Now that her mother had been diagnosed with cancer, she felt the urgency she had not felt before. She booked a trip for her family of five plus her mother for a week in Kwai at a beautiful seaside resort. $21,000 and a dream come true! It gave Meghan such joy and her mother was grateful beyond words. Bucket list was checked off.
Now we were at the last question. Money is left for long term investing. Since she was contributing the maximum amount to her 401k at work, we knew the remaining money would go to a taxable investment account. She had $16,000 left to invest. We decided to use her normal strategy of indexed stocks and bonds for $11,000. And the last $5,000 was invested in a high-flying bio-tech ETF, just for the fun of it.
Found Money is just a matter of answering the questions and checking off the boxes. It really is a fun and easy process when you keep a clear head and acknowledge your priorities! Living Clearly!