The giant Mega Millions lottery jackpot of $1.34 billion dollars was recently won in Illinois. Rather than receiving annual payments over 30 years, the winner can choose an up-front lump sum of nearly $780.5 million (before taxes of course). While most of us might not expect to win the lottery, (the odds of getting all six Powerball numbers correct is approximately 1 in 303 million), it is possible that you may receive a financial windfall at some time in your life. From winning the lottery or receiving an inheritance to sale proceeds from a business or legal settlement, sudden wealth events have the potential to enhance your finances. However, the complexities that come with sudden wealth often lead to losing it. In fact, according to the National Endowment for Financial Education, 70 percent of those who receive a financial windfall will lose nearly all of it within a few years. Careful planning may help you to avoid making the same mistakes that so many others do when dealing with sudden wealth.
Sudden wealth shouldn’t lead to sudden decisions. Any time you experience a significant life event, it is often a good idea to take a step back and avoid rushing into any major decisions – especially when it comes to financial matters. Consider taking some time to assess the options you may have so you can make the ideal choice for you. Do not consider making any major purchases or investments until you have an opportunity to reflect and plan appropriately. For example, ask yourself, “If I hadn’t received this inheritance, sold my business or won the lottery, would I actually be rushing out to purchase a new sports car?” If the answer is no, take time to assess the entire situation and avoid making emotional or compulsive decisions.
As noted above in the lottery example, the winner won $1.34 billion. However, it is estimated that they will walk away with less than $453 million after choosing the lump sum and paying taxes – nearly 1/3 of the advertised annuity amount. Unfortunately, it is common for the recipient of a surprise windfall to underestimate the impact of taxes, fees or fine-print on their new asset. Too often they plan as though they have more to apply toward their financial goals than is really available. Ask yourself, what is the net amount that you will receive that can be applied toward your goals? How significant is the windfall? Not only is it common to underestimate the bite of taxes and fees, it is also common to overestimate just how far the money will go and how long it will last.
Establish your dream team
With so many conflicting financial goals, recipients often struggle to achieve a balance between living for today and planning for tomorrow while also fully understanding the complexities that can come from sudden wealth. Consider working with a team of financial experts (financial adviser, attorney, accountant, etc.) that can simplify your financial life and help optimize your financial choices. Remember, it is critical to understand the financial, tax and estate planning implications of any decision. Consider creating a financial road map that can highlight the impact of various scenarios or decisions before you make them. Establishing both short and long-term goals while prioritizing what is most important to you and your family can help ensure you achieve balance in your plan.
While planning for the future is a critical component of any plan, it is still important to make “living for today” part of your plan, too. Consider building some discretionary spending into your financial plan but be careful as this can lead to problems. Your financial professional may help you to develop a plan that is sustainable for the long-term.
A sudden increase in wealth can also lead to an increase in demands from others. While it is always commendable to assist those in need, be wary of people simply looking to cash-in on your windfall. From a family member looking to borrow money to start a risky business to a child requesting funds for frivolous purchases, be careful not to position yourself as the community bank. Instead, consider making sure that your primary financial goals are addressed prior to taking on other financial obligations. It may also be a good idea to discuss any gifting/loans with your financial team prior to making any commitments.
Lottery winners, professional athletes, entrepreneurs, estate beneficiaries and others that experience sudden wealth have important choices to make that will define the longevity of their assets. Patience, discipline and careful planning may help ensure that you make the most of any newfound financial resources. Since there are many financial and tax implications when deciding on the optimal approach, consider speaking to your financial, tax and legal advisers to determine the most appropriate approach for you.
Kurt J. Rossi, MBA, CFP®, AIF® is a CERTIFIED FINANCIAL PLANNER & Wealth Advisor. He can be reached for questions at 732-280-7550, kurt.rossi@Independentwm.com, www.bringyourfinancestolife.com & www.Independentwm.com. LPL Financial Member FINRA/SIPC.