Windfall Gains – Plan to Use it Wisely

Indian economy is currently showing signs of a slowdown in 2013 and this is seen across the board in various sectors barring few exceptions. One can see slow hiring, lay-offs, cuts on salary hikes, cost cutting, projects getting postponed or cancelled and so on. Probably you are wondering what kind of windfall gains I’m talking about. Though this sounds out of context currently we might see windfalls rarely in different forms.

Windfalls could come from lottery or winning a contest, gambling, financial speculation or trading, from business, fat bonuses, salary hikes, etc. Some employees would also get a lump-sum when they withdraw their Provident Fund balance.

In simple terms windfall is a lump sum gain that you receive from any of the above sources. In some cases (such as lottery, inheritance, etc) it could be unexpected and serve as a pleasant surprise. In some cases such as provident fund, bonuses, etc you will probably know it in advance.

 Utilizing Windfall Gains – Getting Started

We all understand business and economic cycles from real life experiences and these have a significant impact on your daily lives too. Tough times started in late 2008 and early 2009 starting with the Lehman Brothers crisis, where several companies announced lay offs, pay cuts, freeze on hiring and massive cost cutting. This is one side of the story. On the other side we also had several IT major doling out massive bonuses, onsite allowances, pay hikes, etc. There were positive years when other sectors also did well and employees benefited.

Before you think about spending your windfall gains, spend a minute thinking about your bad days when you had to face tough situations. This simple thought will ensure that you don’t spend the windfall on fancy gadgets, dining out at a 5-star restaurant, partying, buying a high-end car, etc.

You can definitely celebrate a bit but keep that to a minimum, but after that you need to see how to utilize the balance funds wisely. Remember that utilizing windfall gains productively is the best way to ensure that the money grows and later helps you create an income stream or atleast serves as a back-up for a rainy day.

Utilizing Your Windfall Gains Wisely

This is an area where one needs to exercise judgment on a case-to-case basis. I am providing a few suggestions or options for utilizing the surplus gains from windfall. Feel free to pick and choose the relevant options that suit or match with your needs or requirements.

1. Payoff dues and pending loans (particularly those with high interest)

If you have a personal loan or credit card dues, try to pay them off as soon as you can. These are the biggest drag on your finances given the high interest they charge every month. This puts an end to monthly EMIs and bill that were eroding your income.

Assuming you manage to save Rs.10,000 per month, you will be able to accumulate Rs.1.2 lakh in a year, which can be used to buy investment assets. If you were to invest Rs.10,000 per month at 10% interest p.a. for 2 years, you can make Rs.2.64 lakh. Not a bad idea. This was just a example to show how investing regularly is more wiser than spending on EMIs.

Next time you apply for a personal loan, car loan, etc just think about loss of wealth. This does not mean you have to pay-off all loans with your windfall. The only loans you may want to still retain are housing loans and education loans. Housing loans are affordable with a moderate interest, so keep it for the long-run.

You also have plenty of tax sops and benefits on housing loans and education loans, so don’t foreclose the loan and lose those benefits. Instead use to surplus to invest in stocks, real estate or other assets that can create additional income. If the return from investments is higher than your interest on housing loan you must invest, else if you don’t have any attractive investment option, then paying off your loan might be a good option.

2. Invest in Assets That Generate Wealth and Additional Income

Most people don’t go beyond the fixed deposits and savings account for investments. Some people invest in insurance-based investment products which are high cost and low-yielding. When you have a windfall it’s a good time to choose an investment product for generating capital appreciation and additional income.

Most people assume that fixed deposits are the best way to invest given the fixed interest return. Sadly, FDs are not able to beat inflation which is in double digits. Hence fixed deposits don’t create wealth for you, instead they just keep your money safe and provide low or moderate returns. Keep some portion in FDs, but choose those investments which can generate regular income as well as capital appreciation.

For example, stocks are known to provide income through dividends and their price appreciates as the value of a company growth with higher profits and reserves. Similarly a property can generate rents as well as appreciate in value over time. Remember that the income from stocks or property is not fixed, instead it increases over the years, hence the yield on your investment goes up.

For example if you purchased a property in 2008 for Rs.24 lakhs and it fetched annual rents of Rs.84,000 (Rs.7 k per month) the rental yield is just 3.5% (84000 divided by 24 lakhs). Lets say in 2013 (after 5 years) the rent increased to Rs.20 k per month fetching annual rents of Rs.2.4 lakhs. Now your rental income has almost tripled over the years. The rental yield now is 10% (Rs.2.4 lakh divided by Rs.24 lakhs). But remember this is just a gross yield and your net yield will be lower considering renovations, repais and other costs.

This is exactly what Robet Kiyosaki, the Rich Dad Poor Dad fame meant when he says “Assets are those items which can put money in to your pocket”. Just remember this when you go shopping or spend a few thousands on your favorite gadget or when you take personal loans or car loans. Are these really putting money in your pocket or taking it out? They are taking money out and draining your income……so investing your windfall gains can generate additional income for the future.

Today you may think “I have adequate income and I’m content and don’t need more income”. Sounds like words of wisdom from someone who has transcended worldly pleasures? You may be wrong because even though you may be on moksha with your high income today, when you get older you will realize that life after retirement will be more expensive and you have to build a foundation of investments to live happily after retirement.

3. Accomplishment of Goals

Many of us postpone certain goals or ambitions due to want of funds or other reasons.

For instance Mr. Prasad was not sure how to finance his son’s education in a US university. Recently Prasad had travelled to his native to meet his brother to discuss a proposal to sell an ancestral property which was not longer used by the family.

A few months later the property was sold and Prasad received Rs.10 lakhs as his share, which was a windfall as he had not invested in the property. This gain helped him to finance up to 50% of the tuition fee for his son’s Masters’ degree in Michigan, USA.

This example shows how Mr. Prasad was able to utilize the gains for meeting family goals. Similarly you may have goals such as buying a home, immigrating to another nation, going abroad for studies, wedding in the family, planning for a child, etc.

The goals need not necessarily be long-term. It can be as simple as buying a guitar for your kid who is learning music, or investing in a professional course. In some cases you may have postponed the renovation and repair work on a property due to shortage of funds. Now that you have funds it’s a good idea to renovate the property so that its value and beauty gets restored. Similarly if you do not have life insurance, health insurance for you or your key family members, it’s a good idea to purchase a term insurance cover.

The above three areas are broadly sufficient to make good use of your windfall gains. These productive avenues will generally be sufficient to utilize your gains. However, despite allocating funds for these if you still have some surplus you can then look at using it for entertainment, vacations, etc.

Conclusion – Windfall Gains

Once you are debt free, have sound investments and met all life goals you are actually free to do what you want. But ensure that you have done your homework before you come to this decision. I wish you make some windfall gains this year, and hope you will use it wisely to become financially free and successful in life.