How to Handle a Windfall
You win the lottery, your grandfather leaves you a fortune, you get a settlement from your divorce or accident. Whatever the reason, you now have a significant sum of money that will change your life. Dream come true or nightmare?
Sudden wealth, much like overnight success can be problematic. “The big difference in making money and receiving money in a windfall is when you make it and save it, you know how hard it is to come by. When it comes to a windfall, there isn't that ingrained respect for the challenge of accumulation, and it can become easy come, easy go,” warns Mackey McNeill, founder of Mackey Advisors, a wealth advocacy firm.
According to a study by economists at the University of Kentucky, the rate of lottery winners filing for bankruptcy within five years of winning is double that of the general population. Interviews by the Williams Group of more than 2,000 families who had gone through estate planning and wealth transfer revealed that 70 percent of those families lost control of their assets – and their family harmony – in the first generation after the transfer, says Tiffany Washington, founder of Washington Accounting Services.
“A person coming into sudden wealth may experience anxiety, trust issues, and a sense of being overwhelmed. People in this situation can feel very isolated. They may not be able to relate to their friends any more and it could put a lot of strain on their relationships. This could be because they doubt everyone, and they become paranoid,” says Washington.
For sure, it's a highly emotional time, especially if the money is an inheritance from a loved one, there's the grief factor and maybe a guilt factor too. If you find yourself suddenly wealthy, financial advisors have much advice.
Chill. Take for example an inheritance. “Deal with the emotional loss first. Your decision-making skills are not at their peak during this time. By waiting 6-9 months before making any big decisions or commitments you are giving yourself time to heal and reflect on what is important to you,” says Denis Horrigan, a certified financial planner and partner at Connecticut Wealth Management. Also be prepared to wait. Settling an estate can be a long process – time consuming and frustrating. Often it can be months before any money is distributed to its respected parties. To completely settle an estate, expect this to take a year, if not more, says Horrigan.
Regardless of the scenario that brought you wealth, do not rush into anything. Wait 6-12 months before making any decisions about the money. While you wait, keep the money safe and accessible, say in a savings account or money market account.
Keep quiet. “Keep the news of the windfall to immediate family to avoid jealousy or expectations from other family members and friends,” says Mitch Brill, a certified financial planner with MassMutual, who adds, “Do not quit your job – if at all – until you truly understand how much income you will need for the rest of your life to ensure you don't outlive the money.”
Resist temptation. Forget that new house, car, boat, Rolex or whatever tickles your fancy, in the short run. “You don't want to buy too much too fast,” says Washington. You don't want people asking questions about where all that money you're spending is coming from, less they start asking for loans before you've decided what you want to do with your good fortune.
Build a team. If you don't already have an accountant and financial advisor, now's the time to do so. You can discreetly ask friends and families for referrals while staying mum about your real reason. You want to build your team carefully. “There are financial planners of every type, size and ability, many of who will be looking to make a quick dollar for themselves. Take your time finding an advisor,” says Ted Sarenski, CEO of Blue Ocean Strategic Capital. If your windfall is huge, you may need to add a lawyer and insurance professional to your team.
Know your risks. With your new-found wealth, you may be an even better target for legal attacks. Have your insurances reviewed and make sure your coverage limits are sufficient to protect you. Also realize that our estate plan may have been appropriate before the windfall, but may not after it. For insurance, your life insurance coverage may need to be increased in order to cover estate taxes due upon your death, points out Horrigan.
Avoid mistakes. While you don't want to broadcast to your family that “you're in the money”. You can't ignore Uncle Sam. “Many people in this situation don't pay taxes because they can often be deferred until the next tax period. Often, the money is spent but the liability still remains,” warns Bryce Noel, president of Black Diamond Strategies. Keep the right perspective. “Remember the $10 million paycheck is not coming every two weeks. You have to keep telling yourself that,” says Noel.
Make a plan. Michael Goodman, president of Wealthstream Advisors offers a few last thoughts, “Build a foundation before spending. Establish cash reserves and pay down expensive debt.” Once that matter of business is resolved, you're ready to start thinking about your goals and how that new-found wealth can help get you there.