Bonuses, commissions, equity comp, and other variable income sources mean you receive lump sums of money. Here’s how to optimize your finances for it.
For our financial planning clients, managing lump sum cash inflows is a constant conversation. Although the source of the money can vary, cash flow management is a huge part of ongoing planning because most of the folks we work with have some form of variable income.
Getting this right becomes especially important when we’re talking about total incomes of $500,000 or more, when half or more of that sum will hit quarterly, semi-annually, or even once a year.
Managing big lump sums like that is a skill, and it’s something we have a deep experience in helping our clients with. Cash flow management can get complex not just due to the size of these cash infusions, but due to timing.
When you know you have the money you need on an annual basis, that’s great… as long as you have the ability strategize and plan around the timing of your cash inflows, outflows from expenses, management of short-term goal funding, as well as plans for long-term savings and investment contributions.
If you haven’t built this lump sum cash management skill yet, this podcast episode can help. Here, we’ll cover:
- What counts as “variable income,” or what lump sums of money you may receive over time
- The number-one thing to do if you receive a lump sum of cash, from any source
- Two main methods to manage cash flow for solid but unpredictable income streams
- The mistakes to avoid when you receive any kind of lump sum payment
- Why you have to invest some of these cash inflows
What Do Lump Sum Payments Look Like?
When we’re talking about lump sum cash inflows, that generally refers to money coming from sources like:
- Bonuses or commissions
- Grants of equity compensation (RSUs, ISOs, etc)
- Business distributions or freelance income, if you’re self-employed
- Tax refunds
- Inheritances
- Lottery winnings (hey, it happens!)
- Net proceeds from large asset sales (like the sale of a home)
Variable income may be a one-time event; you might receive an inheritance once in your life, for example. Or, it may be a feature of how you are normally paid.
Your pay from an employer could be dependent on bonuses or commissions, and your income may fluctuate year to year based on the value of your equity compensation. Or you could own your own business, and the revenue from that company will never be exactly the same each year (even if it’s relatively predictable and stable).
You might know the range you expect to make as an entrepreneur or an employee with variable income – but it’s impossible to know the exact dollar amount to expect (in the way you could predict if you are paid straight salary via W2 income with no variability throughout the year).
The Mistakes to Avoid If You Receive a Lump Sum of Cash
There are three major issues people tend to face when they receive lump sum payments from sources ranging from bonus money to an inheritance:
- Mental accounting
- Misunderstanding (or miscalculating) taxes
- Using lump sum money to fund too many fixed costs (which are harder to maintain than one-time expenditures that you might want to explore with your bonus money or other cash inflow).
We dive into all three of these potential mistakes in this episode to help you avoid running into trouble with variable income or other lump sums deposited into your accounts.
How We Advise Managing Lump Sum Cash Inflows
We’re big fans of prioritizing your savings rate above other financial functions (like determining how much you can spend on X or what you should budget for Y).
Why “savings first”?
Because once you take care of your savings, you’re free and clear to spend the rest. Take care of the savings first and you can use your money on what you want and what’s important to you.
By saving first, you also have a budget for your expenses built for you. It’s a natural way to limit lifestyle inflation, which can be hard to manage on your own.
In this podcast episode, we also dig into methods for managing your bonus money or other variable income streams, and explain how most fall onto a spectrum that runs from “tightly-controlled” to “free-flowing.”
We highlight a few pros and cons of each approach… but ultimately, what we recommend to clients is keeping normal spending and savings as consistent as possible. Then, when you receive large sums of additional income, prioritize investing with that money first.
That doesn’t mean do nothing but invest with bonus money. But we want to ensure enough of your total income is dedicated to long-term investments so that you can reliably grow your wealth over time. Then you can use the rest in whatever way aligns best with your stated values.
If you’re ready to better manage the lump sum cash inflows that are coming your way through bonuses, commissions, or other income streams this year, jump into this episode here:
Want More? Here’s How to Connect
We’d love to connect with you and continue the conversation! If you have questions or comments, send us an email at team@beyondyourhammock.com.
You can also learn more about working with BYH as a financial planning client – click here to request a complimentary consultation and one-page financial plan.
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