How to handle windfalls

Matt and Dave on the morning show on ABC radio in Adelaide asked me to give their listeners some advice in case they were lucky enough to have a nice windfall. Maybe the money might have come after a 'shock' bit of luck at the Melbourne Cup or it could be a bigger 'win' such as an inheritance.

The guys wanted to know how you would handle such jackpots, and in particular how you could grow them.

The first answer for the big win was what they might have expected. The second recommendation for the smaller amount was an investment that could turn, say, $10,000 into millions!

More on that later.

Two important decisions

If you have a decent amount to invest, you have two important jobs to do. The first is to work out what you want to do with it - goal-wise. Second, you have to determine how you're going to make it happen - do-it-yourself or seek a professional such as a financial planner for investment issues and/or an accountant for tax-related matters.

A taxing tale

This is a really important decision as an email from an accountant I know underlined recently.

This is how his email started:

"A medical specialist client of mine who is employed by the public system came to see me this morning and I have identified a major issue with salary sacrificing super and monitoring the $50,000 and $25,000 concessional limits," he wrote.

These were rules changed in the Budget this year.

The client salary sacrificed $12,000 in super in May 2009, but the funds didn't actually hit his super account until the current financial year. This would be because most employers are only required to remit super contributions on a quarterly basis, i.e. within 28 days following the end of each quarter.

This guy has put $40,000 into super through salary sacrifice but the $12,000 from last year, which is counted for this year, puts him over the $50,000 limit. This brings a 31.5% tax slug on the excess.

Another problem is that the 9% super guarantee contributions are included in the $50,000 cap with the consequence that 31.5% tax will also be paid on these.

This story tells you how important it is to know the rules of the investing game, especially when it comes to tax.

Do the homework or get help

The same applies when deciding to invest in property or in shares with your big windfall. There will be tax deductibility issues that should be considered in relation to your income. This is why it's crucial to do the homework or to get an expert.

I came across a young guy I know who was finding it hard to buy a house where he wanted. I asked if he thought about buying it as an investment property using the tax system to help cover the interest bill? He hadn't. He thought if he did, the place would attract capital gains tax but I said if he moved in before six years, it could be eliminated. He didn't know that, and in that time, I pointed out, his income should rise and that could make the place more affordable.

I also suggested he make sure that the area he was looking at was good for rentals. You want a place with a low vacancy rate.

Plan it!

So for a big windfall, I reckon you need a plan. It starts with your goals and shows how you will get there. I often use 10% per annum as an average return on good property, and shares over a 10-year period. This means you could gamble that your $100,000 could double around every 7 years with adjustments for tax.

Of course if your adviser or your own DIY plan is better than the average, you could do even better! But this is easier said than done.

Do the maths

Now let's turn our attention to the smaller amount.

If you're in your 20s or 30s, just plonking the amount into your super or against your home loan can be good. The E-Choice website had an example of a couple who wanted to pay off their 25-year, $100,000 home loan quickly but could not afford higher monthly repayments. Instead they decided to put one partner's annual $2,000 tax return straight into the loan. This strategy would cut the loan term by nine years and save almost $45,000 in interest - presuming 7% interest over the course of the loan.

Small amounts plus time can deliver rewarding results.

Back to school

However, I told Matt and Dave that a great 'investment' of a small amount might be to do a self-improvement course. It could be a financial education course, a public speaking program, a training program or even a university program.

This small investment could double, triple or quadruple your earning capacity and deliver millions of dollars through work and investment over your lifetime in a job or a business you own.

It always starts with goals and happens when you put a plan into action!

Click here to visit Peter Switzer's website

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How to handle windfalls

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