This afternoon, my wife and I got a check from our mortgage company for overpayment of our escrow account. Since we weren’t expecting the money, it was certainly a nice surprise, and got us talking about what we might like to do with the money.
Getting money you weren’t expecting, like in our case, or getting more than you were expecting, for example, your birthday, is always a great feeling. Having a big check or a giant stack of cash in your wallet has a funny way of putting a spring in your step and daydreams in your mind of what you’re going to buy with the loot.
So, should you take these good feeling all the way to Best Buy and get that big screen TV you’ve had your eye on? Or, should you be boring and do something frugal with the money instead?
As you’ve probably already guessed, I’m going to argue that you should do something that involves frugality.
Let’s assume you received a $500 “windfall” and you’re debating between buying a PS3 and two games, or doing something frugal with the cash.
Pay Down High Interest Consumer Debt
This is an absolute no-brainer. By contributing the unexpected money toward paying down high interest consumer debt, it’s possible you could ultimately save yourself hundreds, if not thousands of dollars in interest charges.
For example, let’s make it easy and say you have $500 in outstanding credit card debt on which you were paying 18% annual interest.
If you were to wipe out the debt, obviously, you would incur $0 in additional interest charges. However, if you were to blow the money elsewhere and then continue to make just the monthly minimum payments, you would ultimately incur nearly $200 in additional interest charges!
Blow the money and lose an extra $200, or pay off the debt and lose nothing else? Again, seems like an absolute no-brainer.
Contribute to Your Emergency/Rainy Day Fund
If you’ve already paid down all of your high interest consumer debt, but don’t have much in savings for an emergency, it would be a very wise move to put the unexpected cash there.
As you’ve read here before, 64% of Americans don’t have enough money in savings to cover a $1,000 emergency expense, so if you’re in that boat – and based on statistics, there’s a good chance you are – stashing away that $500 will put you half way there. And considering $1,000 expenses really aren’t all that uncommon, wouldn’t you rather have something other than a video game system to fall back on?
Plus, once we get back into a higher interest environment – which, according to the Fed will likely be years from now – that $500 will make you even more money simply by just sitting in a bank account.
Pay Off Other Debt
Once you’ve paid off any high interest consumer debt and have enough in savings that you can cover three to six months worth of living expenses, it might be worth contributing that extra $500 towards more “acceptable” debt – things like mortgages, student loans, car loans, etc.
While a one-time $500 payment won’t do much, especially over a the life of a loan like a 30-year mortgage, making a habit of contributing these surprise payments will make a big difference.
For example, if you had a $200,000 30-year fixed rate mortgage at 5%, and paid an extra $50 per month towards your mortgage (only $600 per year), you would pay off your loan nearly three years early and, here’s the kicker, you’d save over $20,000 in interest costs! That’s absolutely incredible!
Do Something Memorable
Okay, so you don’t have high interest consumer debt, you’ve got an emergency fund, and you don’t need to pay down a mortgage or other debt.
Don’t go out and blow the money on the PS3, like in the scenario I outlined above. Go out and spend that money on something memorable instead! Go whitewater rafting, or get a bunch of friends together and rent out a beach house for a week. Maybe do something nuts like skydiving.
Just don’t blow it on something that’s going to give you buyer’s remorse two weeks from now.
So, those are my suggestions for what you should do with unexpected money. Hopefully you’re fortunate enough to need to reference this post in the very near future!
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