6 Things To Know If Your Salary Has Increased by More Than $10K in the Last Year
If your salary has recently increased by more than $10,000, you’re probably flying high. But after celebrating your accomplishment, it’s equally important to be aware of how else this can impact your finances.
“With a significant salary increase, such as one in the region of $10,000 per annum, it’s vital to have a well-rounded financial strategy to manage this extra income effectively,” said Jonathan Feniak, general counsel at LLC Attorney.
“Firstly, it’s a prudent move to ramp up your savings or investments, if applicable, to leverage this boost in your income. This extra cash flow can prove beneficial in meeting long-term financial objectives like retirement or buying a house.”
One consensus among experts is that you shouldn’t neglect new tax considerations now that you’re earning more. Here is expert advice on how to make the most of your new funds.
Keep in Mind You Might Have Switched Tax Brackets
“If your salary has gone up more than $10,000, that may be putting you in a new tax bracket,” said David Kemmerer, CEO of CoinLedger. “That is something to be aware of. You may want to take advantage of things like retirement contributions and charitable donations in order to bring your taxable income back down to the bracket it was before to avoid owing that new extra amount.”
Other experts agree.
“When you experience a significant pay increase, make sure you understand how it will impact your taxes,” said Melanie Musson, finance expert with Clearsurance. “If you’ve been sitting right under a tax bracket, it could boost you into the next tax bracket. In that case, you might want to become more proactive about deductions and tax credits.”
Don’t Forget About Adjusting for Taxes
“A common oversight I’ve observed is not adjusting tax withholdings or retirement contributions in response to increased income,” said Nischay Rawal, certified public accountant at NR Tax & Consulting.
“For example, one client, a tech worker in Silicon Valley, saw a $15,000 increase but didn’t adjust his W-4 form. By mid-year, he was alarmed by the increased tax burden because his withholdings remained calibrated to his previous salary.
“We quickly adjusted his W-4 and increased his 401(k) contributions, which not only reduced his taxable income but also maximized his employer’s match.”
Ramp Up Your Investment Strategy
When you have a $10,000 increase in salary, you have an excellent opportunity to start or ramp up your investments, Musson said.
“With small raises, it’s hard to find extra money because inflation eats up the raise,” she noted. “But with a significant raise, you can keep your current lifestyle and start working toward building some wiggle room with an emergency fund.
“Then, you can start investing to prepare for retirement and build your wealth.”
Optimize Taxes by Investing in a Roth IRA
“A client who received a $20,000 raise invested the extra funds into a Roth IRA,” Rawal said, “an exceptional strategy since contributions to a Roth IRA grow tax free. This was ideal for her as she was in a lower tax bracket at the time but expected to be in a higher one upon retirement.
“This forward-thinking approach not only prepared her for a secure retirement but also optimized her current tax situation.”
Funnel Money Into an Emergency Fund
“Financial windfalls from salary increments can lead to lifestyle inflation if not managed properly,” Rawal said. “After discussing with a new client who recently received a promotion, we decided to channel part of his salary increase into an emergency fund, despite his inclination to upgrade his lifestyle drastically.”
This created a safety net, which proved beneficial when Rawal’s client faced unexpected medical expenses later that year.
“These cases underline the importance of proactive financial planning,” Rawal said. “It’s crucial to reassess and adjust your financial strategies periodically, especially with significant changes like salary increases, to avoid potential pitfalls and align with your long-term financial goals.”
Pretend the Money Doesn’t Exist
When your salary goes up by at least $10,000, Slick Cash Loans founder Erwin Vico recommends saving it and pretending it doesn’t exist.
Save it “until you have the equivalent of six months’ income, only to be used in a true emergency — for example, when your place of employment closes,” he said. “Assuming you’re never confronted with said emergency, I would continue saving the money but have it withdrawn automatically from your paycheck and invested into a low-cost S&P 500 index fund with Vanguard, because of their low fees.
“Do this forever, with every raise. It’s simple, and if you do it with automatic withdrawal, you’ll never miss the money. You will also end up having more money than most of your friends.”
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This article originally appeared on GOBankingRates.com: 6 Things To Know If Your Salary Has Increased by More Than $10K in the Last Year
