Windfalls Aren’t Unlimited Money

A few days ago, I had a really interesting conversation with an old friend of mine from my childhood. I had gone back to my hometown to visit my parents and attend a community festival and I bumped into several people that I used to go to school with.

I wound up having a fairly long conversation with one of them about life in general and what we’d each been doing since high school. Back then, he was an incredibly diligent worker and a very nice guy, but he struggled greatly within the constraints of school, so I was glad to hear that he had found a good job and career path that paid quite well for the area. He had a home and a nice family and some things he was passionate about – a really good life, in other words, and I’m glad that he does.

One comment from our conversation stuck in my head, however. He was telling me about someone that we both knew from those days that had won a little over $200,000 in a settlement, apparently after all taxation. He spoke about that amount of money in near awe and said, “If I had that kind of money in my hand, I’d retire tomorrow.”

Let’s stop right here for a second. $200,000 is a nice amount of money, but it’s not “retirement money” for almost anyone. By my quick back-of-the-envelope math, my old friend brings home enough so that they’d eat through that money in less than a decade without some significant spending cuts in their life – and that assumes his wife continues to work.

I rolled this idea over in my head for a while, and then I remembered an old episode of The Office, entitled The Lotto. A quick synopsis of the start of the episode from Wikipedia:

The six warehouse workers win $950,000 in a lottery pool, and quit in a celebratory fashion of running through the office, making a mess and mooning the staff.

Let’s do the math here real quick. Let’s assume that a third of the winnings would be devoured in taxes, and then the rest is split six ways. That leaves each winner with about $100,000 after taxes, and their response was to immediately quit their jobs. Probably not the wisest move.

Yet, on some deep level, I understand why my friend made that comment and why the workers quit their jobs on The Office.

The reason is that within each of us, there’s some amount of money that we really can’t grasp any more in terms of our day to day lives and thus it begins to seem infinite. If you’re used to living on about $2,000 or $3,000 a month and suddenly you have hundreds of thousands of dollars, it’s hard to put that amount in context of your daily life.

We are humans. We are naturally short term thinkers. Thinking long term is something we have to work at, and it’s a big theme of The Simple Dollar.

When people see an amount of money on their plate that covers their expenses for at least the next year or two, it ceases to become a real number to many people. It means that many of the rules of normal behavior that they were constrained to no longer apply.

For some, that might mean quitting their job. For others, it might mean silly expenses like buying an expensive car or going on an expensive trip or buying a new house.

My response? If you ever find yourself with a windfall that’s more money than you’ve ever had at once in your life, don’t do anything immediately. Stop. Chill out. Catch your breath.

Don’t quit your job. Don’t buy a car. Don’t buy a house. Don’t go on a trip. Give yourself at least a month to process what’s going on – I’d suggest even longer than that. Keep it quiet and don’t spread the word around, either.

Here’s the reason: Short-term thinking comes easy, but long term thinking is hard. It takes time and reflection and advice. If you make one short term move with a windfall, it should be to wait and give yourself enough time to let some long-term thinking kick in.

The sole step that I recommend in this situation is to find an accountant and a tax lawyer that you can trust who can tell you how to keep this money safe for a while. You shouldn’t be touching it for at least a few months, not until you’ve got your head on straight again. If the amount is less than $250,000, you probably don’t even need those fellows. Just put the money in an FDIC-insured savings account at a local bank for now and just sit on it for a while.

In the interim, lock it down. Ignore the ideas that pop up in your head. If anyone asks you for money, turn them down. You can always give them money later on, on your own terms. Keep living life as you always have, and breathe.

The first thing you’re going to want to do with that money is to build a moat to protect the things you already have. That means doing things like paying off your debts and having a big emergency fund in case things go wrong.

A “moat”? It’s just a simple term to refer to the concept that your life is somewhat protected from the unexpected, much like a moat around a medieval castle somewhat protects it from invaders. It means rather than radically rebooting your life, you’ve simply done quite a lot to protect and secure what you already have, giving you peace of mind and the ability to survive some unexpected events without a major financial crisis.

If that windfall can eliminate your car loans and your mortgage and all of your credit card debt and give you enough cash in savings to live off of for a year, then you spent that money incredibly wisely and you made a substantially better life for yourself. You have far less stress, far more freedom, and far less worry about a cruel boss tossing a pink slip at you.

If you still have a small amount of money left over, use it to replace items that are on the verge of breaking down. It might be time to replace an old beat-up car with a late model used car, for example, or replace a washing machine that’s making ominous noises. Making these moves keeps you from a sudden expensive burden in the near future.

Building a moat should be your number one priority with any windfall. Simply eliminating debts, building an emergency fund, and taking care of any obvious severe upcoming expenses will do quite a lot to secure your life, eliminate stress, and give you a foundation upon which to build great things.

The thing is, in the case of my friend’s acquaintance and likely in the case of the workers on The Office, their windfall would have been consumed by building a moat. They would have still had their old jobs and most of the structure of their ordinary life, but it would have come with a lot less stress and a lot more protection against the unknown. Things like an odd clunk in your car’s transmission no longer set you into a panic when you have a moat. Thoughts about trying a new career no longer seem impossible when you have a moat.

What about the big dreams, like quitting your job and retiring early? Those things should only enter the picture if you build a moat around your life (as described above) and you still have a lot of money left over – and by a “lot,” I mean an amount that would pay your living expenses for the rest of your life. If you spend $30,000 a year to live, you probably shouldn’t retire unless you have somewhere around $1 million left over, because if you have less than that, you’re going to run that money dry before you get old. A good rule of thumb is this – divide the amount left over (along with any retirement savings you might have) after you’ve built your moat by 30. Is that resulting number enough for you to live on comfortably with a little bit of breathing room? If the answer is no, then you shouldn’t walk away yet.

In any case, if you’ve built a moat for yourself and still have substantial money left over, that’s the time to talk to a financial advisor. Seek out a fee-based advisor with a good reputation and, before you go, spend some time seriously thinking about your goals. Figure out just two or three things you want to achieve with your money and let the rest of your ideas become water under the bridge.

If there’s one thing to remember about a windfall, it’s this: Windfalls aren’t unlimited money, even if the amount seems really, really big. Almost always, that amount turns out to be smaller than you realize, and if you just start making short term decisions with it, you’ll end up right back where you started. Use a windfall to build a genuinely better life; don’t use it to splurge and give away for a few months only to wind up right back where you started (likely with some extra bitterness to boot).

Good luck.

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Trent Hamm

Founder of The Simple Dollar

Trent Hamm founded The Simple Dollar in 2006 after developing innovative financial strategies to get out of debt. Since then, he’s written three books (published by Simon & Schuster and Financial Times Press), contributed to Business Insider, US News & World Report, Yahoo Finance, and Lifehacker, and been featured in The New York Times, TIME, Forbes, The Guardian, and elsewhere.