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You got a new job with better pay—or a big raise at your current job. Before this income gets absorbed into your budget to cover the cost of daily living, take a second to stop and think. Now is a great time to recalibrate your finances, and you may take this opportunity to improve your lifestyle, accelerate your savings goals, pay down debt, save more for retirement or go back to school. To accomplish your goals, however, it's important to strategize. Here are a few ideas to consider.
1. Create a New Budget
If you don't already have a budget, make a budget now. It's the simplest way to plan your spending and it'll help you decide what to do with your newfound income. If you're already budgeting, sharpen your pencil and revisit your plan. Use your first full paycheck as a guide to create a revised budget that lets you pay your bills comfortably, set aside money for goals like saving, paying down debt and making lifestyle improvements.
2. Build Up Your Emergency Fund
Some experts recommend allocating half of any salary increase to spending and half to savings, and the first place to park any additional savings is your emergency fund. This should be equal to three to six months' worth of necessary expenses, and kept somewhere you can easily access if you need it. If your emergency fund has been neglected—or raided during the past few tumultuous years—here's your opportunity to rebuild.
3. Catch Up on Retirement Contributions
Also consider maximizing your retirement contribution, especially if your employer offers a 401(k) plan with matching benefits. You'll see an immediate return on your investment in the form of matching funds (if they're available), and you'll gain a tax advantage you can use in retirement. If your employer doesn't offer retirement benefits—or you'd like to set up your own nest egg—consider establishing and funding an individual retirement account.
4. Pay Down Debt
Paying off high-interest credit card debt or paying down student loans can improve your financial outlook—and possibly your emotional outlook along with it. Take stock of your credit card balances and find a paydown strategy that works for you. The debt snowball strategy, for example, has you pay minimums on all your cards except the one with the lowest balance, at which you'll throw every available dollar. Once that card is paid off, you'll move on to the card with the next lowest balance, and repeat the process until all your debt is paid off.
5. Improve Your Credit and Use It Wisely
The basic steps to building and maintaining good credit aren't terribly complicated. Think about setting up automatic monthly payments to avoid late payments on your credit accounts. Bringing down card balances will help you reduce your credit utilization ratio, which is an important credit score factor. Good credit and increased income could make this a good time to shop for credit. You may be able to snag a rewards credit card or qualify for the mortgage or auto loan you've been thinking about—just be careful not to overextend yourself.
6. Start Investing
You can start an investment habit with just a few extra dollars a month. Setting aside a small portion of your income regularly can add up to a sizeable investment—maybe even a passive income stream—over time. It also opens the doors to a new level of financial literacy that can serve you well over the years. By the way, your investment options aren't limited to stocks and mutual funds. Do you have a brilliant idea for starting your own business? That might be a worthy long-term investment too.
7. Fight Against Lifestyle Creep
Here's the opposite of being proactive: Instead of figuring out how you'd like to use your new wealth, you spend a little more on lunch every day. You buy slightly more expensive laundry detergent. You adopt the kind of dog that needs an $80 haircut every month. Now your bank account balance is lower at mid-month than it was before your salary went up and you aren't really financially better off. In fact, you might be a little worse.
Thanks to this kind of lifestyle creep, earning more money does not automatically translate to greater financial stability—or even a noticeably better life. Don't go this way. Using your money deliberately will generally get the best results.
Take Charge of Your Financial Options
A boost in income may not bring you sudden, indestructible wealth, but it should offer you new options that can make your financial life better—greater security, reduced debt, improved credit, new money management skills and, yes, maybe even a slightly more posh lifestyle. As you continue to manage your finances, you should also be sure to carefully monitor your credit health. You can get your credit report and credit score for free through Experian.
Learning how to optimize a raise or income increase is a repeatable skill. Once you learn how, you'll be ready for your income to grow again and again, as it should over the course of your life.