This personal finance question comes from reader Gary, who recently got a surprise promotion and a 20% raise after his boss left the company. He’s married, has a 2 year old daughter that his wife is caring for full time, has a monthly mortgage payment, two monthly car payments and no consumer debt. He’s curious if he should use the salary increase to boost his standard of living or if he should pretend his income has not changed.
Congratulations! After 5 years of diligence and hard work, your company surprises you with a big promotion. Obviously, with the big increase in responsibility and the additional headaches, management also thinks you deserve a fat 20% raise! (You lucky devil!)
Compared to what you’ve been making over the last few years since joining the company, you’re going to see a fairly generous boost to your (disposable?) income. But does this mean you should buy a bigger house or buy a shiny new car?
Opinions and pre-existing debt levels will vary from person to person, but the safe play is to live as you have prior to getting a raise, act as if it never happened, and stash this money in a rewarding stocks and shares ISA.
Allow me to explain…
While you definitely deserve to spoil yourself over the short term (weekend golf trip, an out of the norm shopping trip, etc.), life altering events like these offer a great opportunity to raise your standard of living, or take the opportunity to strengthen your financial foundation for you and your family.
Here’s some supporting evidence for ignoring your raise:
If you don’t buy this argument of ignoring your raise, you’re probably thinking… sure, this all sounds great, but is it really possible or just fantasy land gibberish?
I would argue that it’s definitely realistic because I did it. I implemented this technique after job hopping four years in a row and each time I’d get a bump in salary by switching jobs, I’d funnel the additional income into a savings account or somehow put that money to work. So even though I was making far more than when I first entered the job market, I took pride in knowing that I was still living on a first year, fresh out of grad school salary.
In the end, the trick is to know the difference between buying the things you want vs. buying things you need. Anyone can justify and self-validate the need to buy stuff, but once you realize that you can modify your spending behaviors and that you might not need every little thing you want to buy, you’ll probably find yourself right path to saving a substantial portion of your disposable income.
Alternatively, if you find yourself in a similar position with your career, but you haven’t been as steadfast in your fiscal responsibilities, then you should consider using these funds to right the ship. If you’re over-leveraged and barely keeping your head above water, then by all means, use this extra income as a means of stabilizing your monthly budget. If you have a significant amount of consumer debt, then use these funds to aggressively pay down your debts using the debt avalanche method starting with your highest interest rate debt first.
Got any additional advice for Gary?
Overall, I think Gary is in pretty good shape since he’s thinking so far ahead and has the foresight to ask questions what to do about his additional income.
My advice would be to create an emergency fund totaling 6 months living expenses (better safe than sorry), then begin to aggressively pay down your auto loans. Also, if you haven’t done so, you should consider maxing out your 401k contributions to get 100% of your employer’s retirement fund match, max out your Roth IRA (for you and your wife), and create a 529 fund for your baby girl. After all, she’s one of the big reasons you’re busting your hump everyday!