A little goes a long way: If you are lucky enough to get a end of year bonus there are a number of different options for yourself
IT’S that time of year again, when year-end bonuses have been, or are about to be announced. (If you get one)
And before it lands in your account, it’s important to put some thought into what you should do with some of it, and how you can optimise it, because after all it was hard earned, so you want to make best use of it.
I say some of it, because maybe you’re not planning on spending all of it and maybe you’re not going to save it all either, so you might be wondering is there an optimum amount or % you should split between both?
And I think there is.
I referred to a rule of thumb in an article I posted a few weeks back about the % you should save and/or spend when you receive a salary increase. And they’re excellent numbers which also can be applied to a yearly bonus payment.
Let me remind you what they are.
Spend twice your years to retirement
Save your age, as a % of the bonus
If your bonus happened to be €4,000 and you were 32, then these rule of thumbs would suggest you spend 66% of your bonus i.e. 32-65=33 x 2 = 66.
So, you are free to spend €2,640 of your bonus and save the balance.
When we look at the second rule of thumb, it would suggest this same person save 32% of their bonus and spend the rest, so both rules of thumb come out about the same.
Which is spend two-thirds of the bonus and save one-third.
Having said that, if you are carrying high, double-digit debt, or you’re saving for a deposit on a house or something else, or you have very little in savings, then perhaps these %’s need to be adjusted and skewed more towards saving and or paying off debt, and a much less % being apportioned to spending.
Okay, let’s assume you’re good with the %’s and you now know the amount you can spend, what are you going to do about the savings portion? Where are you going to lodge those monies, and I see four good areas:
Get rid of Debt
As I said already, but I’ll say it again, depending on your circumstances, paying off debt is something you may have to do. But if you feel aggrieved that you have to, it may help knowing that paying down, or off debt can be a really good investment as well, especially when rates for money on deposit are so low, and inflation so high.
And yes, absolutely get that it’s not the most glamorous way of spending your bonus, but it can be one of your better financial decisions, nonetheless. The less debt you have, the more of your income that can be freed up and applied to other areas. And of course you’ll pay less interest in the long run, but that’s nearly a by the way because it’s not something visible that you’ll see lodged to your account, whereas having more disposable income is.
Increase your retirement fund
You may not be contributing the maximum amount to your retirement fund as you are allowed to, and you could top up the amount by making lump sum lodgements to your pension by way of additional voluntary contributions (AVC).
If for example, you are aged 31, you can make personal contributions of 20% of your income up to a maximum income limit of €115,000.
So, if you are currently contributing let’s say 8% of salary, you can make additional contributions up to 12%.
If we look at that example I gave earlier where that person has €1,360 to save, and if they lodge that to their pension fund, after tax relief, and let’s assume they pay tax at the marginal rate of 40%, it will only cost them €816, and they will get a refund of €544.
Which means, when they receive the tax relief back, they can increase the amount they can spend from their bonus by a further €544. So, out of their bonus of €4,000 their spend can now be €3,184, but they haven’t sacrificed the amount they should have saved, that amount remains the same.
So, along with planning for their future selves, adopting this strategy they are turning their €4,000 bonus into a €4,544 one.
Invest for long term growth
We know if you leave money on deposit, it will earn nothing. In fact it will go down in value when you factor in inflation.
If that €1,360 I spoke about was saved, next year after inflation takes hold, will be worth just €1,292.
Which isn’t a deal breaker but when you factor in the opportunity lost, of not investing in accounts that earn for example 5%, the differential between money on deposit and in a good managed fund becomes quite wide.
And you might think 5% is quite high and where would you get that type of return. In fact, I’m low balling the return at 5%, we have accounts where our own clients have achieved returns of +42.4% over the past 12 months and earned +21% per year over the past three years, so these accounts exist and there are lots of them.
So, the type of fund you invest in, is important, it has to be in a good Exchange Traded Fund (ETF) or a managed fund, it just has to be. Or perhaps you can use an on-line platforms like Degiro or Revelot to buy crypto if you wanted to and see how that goes.
Whatever mechanism you choose whether it’s hands on or off, you must be proactive and do something. You don’t really have a choice if you want your savings to be on a par with inflation which is currently at about 5%. That’s the minimum return you need to achieve for your savings just to hold their value, not to mind increase.
And you ain’t going to get that if it’s sitting in a current or deposit account that’s for sure.
Investment in yourself
A bit of a cliché I know but investing in yourself is something you should consider, because your career is where most people get the vast majority of their income from, which is why you need to never stop focusing on it.
Using some of your bonus to invest in further education, books, attending conferences etc. is making good use of it and even a small change to how you work and what you do, can make a big difference. Bringing an extra value add to an employer above what’s expected and making yourself more valuable to them and more attractive to others, can increase the amount you earn, which can result in hundreds of thousands of extra income earned over your lifetime.
That’s about it for me in 2021. It’s a privilege to write for you each week and I hope you’ve found my articles during the year informative and most of all helpful. I look forward to picking up from where I left off again in January 2022.
Wishing you all a safe and healthy Christmas and my best wishes for the New Year.
Liam Croke is MD of Harmonics Financial Ltd, based in Plassey. He can be contacted at firstname.lastname@example.org or www.harmonics.ie
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