As always, The Motley Fool cannot and does not provide personalized investing or financial advice. This information is for informational and educational purposes only and is not a substitute for professional financial advice. Always seek the guidance of a qualified financial advisor for any questions regarding your personal financial situation. If you'd like to submit your question for feedback, you can do so here.
It's not easy to make money, and we often seem to need more of it to reach our goals or, sometimes, even just to pay the rent. Some of us therefore probably daydream about receiving a windfall sum, and how it could solve lots of problems.
Image source: Getty Images.
Here's a look at a question posed by someone on Reddit, asking how to best deploy $25,000. I'll answer that question in broad terms -- to help anyone who has received or might receive a large cash infusion.
Parents are gifting me $25,000
byu/SnooPies6812 inpersonalfinance
Be sure to have an emergency fund
The questioner doesn't offer much information about their financial condition, so we don't know if they have an emergency fund. If they don't, that $25,000 will come in very handy as it can fund one.
An emergency fund should have enough accessible money to support you for at least three months, if not longer. Let's assume that the questioner spends $4,000 per month on housing, food, utilities, taxes, transportation, and other non-negotiables. So a three-month emergency fund would mean socking away $12,000. If they want to be more conservative, they might sock away more.
That money should be in a safe place, such as a savings account, a money market account, or a certificate of deposit (CD). Think about how much money you need to pay all your bills and expenses each month, and have a sufficient emergency fund for that. Remember that unexpected job losses happen, and costly health setbacks happen, too. Don't be unable to handle them.
Get out of high interest rate debt
We don't know whether the questioner on Reddit has any debt, but if they are burdened with any high interest rate debt such as that from credit cards, it's critical to get out of that debt.
Know that the average credit card interest rate was recently 25.37%, per Forbes Advisor. If you owe, say, $50,000 and you're being charged 25%, you're looking at paying around $12,500 per year -- just in interest!
So if the Reddit questioner -- or you -- has any such debt, it's a savvy move to pay it off with some or all of your cash windfall.
Sock it away until you know more and have a good plan
Once you have an emergency fund and no high interest rate debt, you can think about investing the money. But it's best to read up on investing first, so that you're comfortable with what you're doing. You can learn a lot at Fool.com, of course, and also in books such as The Motley Fool Investment Guide: Third Edition by David and Tom Gardner, The Little Book That Still Beats the Market by Joel Greenblatt, The Little Book of Common Sense Investing by John C. Bogle, and The Little Book That Builds Wealth by Pat Dorsey.
As you devise your plan for your windfall money, think in terms of time and how far out your various goals are. If you're planning to buy a home within five years, it's good to keep money saved for that out of stocks, as the stock market can be volatile. High-yield savings accounts can be a good option. Money you're saving for retirement, assuming it's a decade or two or more away, may grow fastest in stocks.
Invest that money!
For stock market investing, one excellent strategy is to make it easy on yourself and stick with exchange-traded funds (ETFs). There are many good index ETFs, such as the classic Vanguard S&P 500 ETF. There are also lots of great dividend-focused ETFs, some yielding 3% or more and offering recent double-digit average annual gains.
Here's how the questioner's money -- or your money -- could grow if it averages annual gains of 8%. For context, know that the S&P 500 has averaged annual returns close to 10% (ignoring inflation) over long periods.
|
Growing at 8% for |
$7,500 invested annually |
$15,000 invested annually |
|---|---|---|
|
5 years |
$47,519 |
$95,039 |
|
10 years |
$117,341 |
$234,682 |
|
15 years |
$219,932 |
$439,864 |
|
20 years |
$370,672 |
$741,344 |
|
25 years |
$592,158 |
$1,184,316 |
|
30 years |
$917,594 |
$1,835,188 |
|
35 years |
$1,395,766 |
$2,791,532 |
|
40 years |
$2,098,358 |
$4,196,716 |
Data source: Calculations by author.
Unless we're financially independent, each of us needs to be saving and investing for our future needs -- and, ideally, making good use of tax-advantaged retirement accounts such as IRAs and 401(k)s. Be sure to do so, whether you're investing a lump-sum windfall or, like most people, you're socking money away every month or few months.
