It's the most wonderful time of the year! No, not the holidays -- annual bonus time! Perhaps you're a seasoned veteran and used to this most fruitful time or maybe this is your first year hitting the annual jackpot. Either way bonus time is a time for celebration, reflection on all the hard work you've done this year--it's a time for making good financial decisions.
Did I just take the wind right out of your sails? Apologies. Annual bonus time is definitely a time to celebrate but it's also a great opportunity to use your reward to improve your current financial situation. Whether your bonus is $100 or $15,000 you have a lot of options. So let's tackle the question "What should I do with my annual bonus?" As always, the most appropriate answer is it depends. Your personal situation is unique but I'm going to capture some of the more common scenarios to help you decide for yourself what is best in your position.
As a general rule we recommend saving 20% of your income so the rule still applies. Tl;dr Get your bonus--save 20% of it.
Let's look at some other options:
Pay Off Bills
If you are behind on anything like your credit card bill or your rent now is the time to catch up. Before anything else make sure you're up to date on any outstanding payments. There's no need to continue incurring late fees.
Pay Down Debt
An influx of cash is a perfect opportunity to knock out a chunk of, or all, debt. If you have the opportunity to eliminate a debt do it. I.E. if you have 3 credit cards, one with a high balance and two with smaller balances and your bonus can knock out those 2 smaller credit cards, pay those. Now you're limiting the lines of credit you have but you've also knocked two items off your financial to do list leaving you with a pretty motivating sense of accomplishment. If you can't take out an entire debt, tackle the one with the highest interest rate.
Build Up Your Emergency Reserve
You should have an emergency reserve of at least 3-6 months of living expenses. If you don't yet have one or it's falling short of 3-6 months, now is the time to get that in place. This is boring, I know, but will serve you well in avoiding financial pitfalls.
Max Out Your 401k
If you haven't hit the contribution limit on your employer-sponsored 401k your bonus can go far here. If your company matches your contribution you can effectively double your bonus here but you can also build your retirement savings and put that money to work for your future.
If your debt is taken care of and your emergency reserve is good to go you can take some of your bonus money and invest it in long-term, growth stocks or funds like an ETF (exhange-traded fund). Wela uses ETFs and your advisor can help get you started on this. *plug plug*
Start A College Savings Fund
If you haven't started saving for college yet, now may be the time. College tuition is pricey guys. Now is a good time to use this cash windfall to contribute to a tax-advantage college savings program such as a 529 plan. Remember, a 529 plan allows your contributions to grow tax-deferred and distributions from the plan may be withdrawn tax-free (when use for qualified education expenses).
I wanted to make sure this was on the list. You worked hard this year and you earned your bonus. You should celebrate that. Just don't go overboard. As we say around the office "Treat yo'self." Maybe go out to a nice dinner or perhaps buy that watch you've had your eye on. They key is not to create another monthly obligation for yourself that will last longer than the bonus does.
At lot of people don't receive year-end bonuses. If you're lucky enough to be one of those that does, let that money go to work for you. The more debt you pay off, the more cash flow you'll see. The more you have in investments, the more growth potential you have for the future. Whichever route you choose, you've earned it. Good work!