A salary increase is something to celebrate, whether you received a raise or took a higher-paying job.
It’s also something to evaluate within your larger financial picture. That way, you know what to do with your additional cash.
Here’s what to do when you get a salary bump.
1. Determine your new take-home pay
It’s too easy to fall into the “earn more, spend more” trap known as lifestyle creep. Extra spending could easily surpass your additional income.
Before building bad spending habits, get a reality check by calculating how much more you’ll make in the short term. “We need to talk to ourselves in real numbers,” said certified financial planner Lynn Ballou, senior vice president and partner with EP Wealth Advisors in Lafayette, California.
Say you were making $50,000 and received a 4% increase, or $2,000 over a full year. Divide that $2,000 by 12 for about $167 per month. If you’re paid every other week, divide $2,000 by the 27 pay periods expected for 2020, and you’re looking at $74 a paycheck.
This math doesn’t account for tax withholdings and deductions that chip away at your take-home pay. (Scrutinize your paychecks to calculate that amount.) But having a rough figure for this extra income helps you figure out what to do with it.
2. Check your financial picture
To identify opportunities for your extra income, first take stock of your cash flow (incoming and outgoing money), as well as savings, investments and debts. These questions may help you think about next steps:
Are you meeting basic needs? Consider food and shelter. If you’re facing overdue bills and shut-off notices for utilities, those payments should be a priority.
Could you cover an emergency? Emergency funds help you avoid taking on debt if you face unexpected expenses. Ideally, the fund could cover a few months’ worth of living expenses. Start by setting up automatic monthly transfers of $50 from your checking account to a high-yield savings account.
Do you have high-interest debts? These are debts with interest rates around 20% or higher and could be from credit cards, personal loans or payday loans. Consider using some of your additional income to pay debt down.
Could you put more toward goals? Say you’re aiming to retire with a certain amount saved. Consider contributing more to your 401(k), a tax-favored retirement savings account offered by some employers. Other goals may lead you to put more earnings toward a down payment or vacation fund, or toward your student loans.
3. Reward yourself
Celebrate your raise “in a way that honors your hard work and also moves you forward in life without the stress of spending it and never really getting ahead,” said Lazetta Rainey Braxton, chief executive and founder of Financial Fountains, a financial planning firm in Baltimore, and president of the AAAA Foundation, which helps cultivate the next generation of African American financial planners.
To pull this off, give yourself the “gift of time” rather than something that costs money, Ballou said. Spend an afternoon hiking or digging into a book, for example.
If you spend money, Braxton suggested setting boundaries, such as a spending limit equal to the increase you’ll see in one or two paychecks.
Before spending, try to wait a few weeks or even months. After all, it’s not like the money is going to disappear.
Laura McMullen is a writer at personal finance website NerdWallet.