Will you see additional earnings this year? A recent survey found that two in three employers paid their employees bonuses in 2019. Whether it’s $200 or $200,000 in earnings, it is important to think strategically about how to make the most of bonus season.
Imagine that you’ve earned a bonus of $5,000 in addition to your $80,000 annual salary. You might already be picturing yourself lounging on the deck of the SS Mediterranean cruise ship or enjoying some other vacation destination.
While there’s nothing wrong with rewarding yourself for having a great year and working hard, it is important to remember that taxes will need to be paid on that extra money.
Any bonus you receive during bonus season is taxed as ordinary income. If a “married filing joint” taxpayer earns an $80,000 salary and a $5,000 bonus in 2020, he or she will be bumped to the 24% tax bracket from the 22% tax bracket.
If the taxpayer contributes at least the amount of the bonus to a company-sponsored retirement plan, he or she will bring taxable income back into the 22% tax bracket, in addition to enhancing retirement savings. Whether a bonus shifts you into a higher tax bracket or not, careful planning may help you mitigate some of the additional tax liability.
You may have other opportunities to lower your taxable income through flex-spending plans for healthcare, childcare and even transportation costs.
Work with an expert. You may have a job where your bonus is sizeable relative to your income. If so, work with a CFP® professional to ensure that you’re making the most of the money. A financial planner will help you prioritize your spending and savings to be as efficient as you can with taxable dollars.
Spend your bonus on things that give you peace of mind. What financial concerns keep you up at night? While you can dedicate 15% to 25% of your bonus to reward yourself with something fun, it is helpful to devote the remaining funds to paying off debt, investing for retirement or building a financial cushion.
Share the wealth and invest in experiences, not things. Money spent on others can buy happiness. A study published by the University of Nebraska found that doing makes people happier than having. The report concludes that people are happier enjoying experiences with others than they are collecting material items.
One way to make a difference with your earnings is to consider donating a portion of your bonus to a cause that you are passionate about and getting involved to determine how your donation will be spent.
Plan and save for your next big purchase in advance. If you don’t have a car payment now, why not proactively create a new car savings fund? When you need a new car in the future, you can add that cash to your accrued bonus funds and spend it on your next car. Building dedicated savings now may eliminate a future car payment.
Your bonus: The gift that keeps on giving. Using your bonus to settle bills and debt now overall increases future cashflow leaving you with that much more to spend on things and memorable experiences that are important to you.
Remember, working with a CFP® professional can help you decide the best way to make the most of a bonus and help secure your financial future.