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Unexpected windfall: Invest or spend?

Are you the lucky winner of a lottery jackpot? Just got an inheritance? Maybe you've received a bonus or made a gain from the sale of your home or your car?

Do you know what to do with this unexpected windfall?

If it's a small amount, you will probably have no problem making up your own mind.

If you have received a significant amount, however, you need to take a step back. Once the initial excitement has worn off, come back down to earth and allow yourself a period of reflection.

If you can't wait to rush off to your favourite clothing or electronics store ask yourself the right questions before you buy.

Give yourself a few days, or even a few weeks. Start thinking about what you want to do with the money. Write down all your ideas and plans, without holding back. You can sort it out later.

Get an overview of your financial situation. You'll have a better idea of the amount you really have available, and you'll be able to make the right choices. Draw up Your personal balance sheet (PDF, 200 KB) to list what you have (your assets) and what you owe (your liabilities). Go through all your important papers to gather all the information you need (RRSP, TFSA, car loan, mortgage, etc.). This calculation will determine your net worth.

  • If you have a negative net worth, the wise thing to do would be to reduce or eliminate your debt. You can also treat yourself if you want, perhaps by allocating 10% of the funds to a dream purchase or trip.
  • If you have a positive net worth, you can use your windfall to finance projects or build a nest egg.

Determine what's most important to you. There are so many possibilities. You could take a trip to Greece or the Rockies, renovate your home, get a new car, buy an electric scooter, or whatever you fancy. There are obviously many options, and choosing may be difficult. List your choices in order of priority and in one of the following 3 categories: short-term, medium-term and long-term.

Make a decision. If you've come into a small amount of money, make the decision yourself following the above steps. But if it's a sizeable amount, you'd be best off meeting with a financial planner. With the help of a qualified expert, you'll be able to make the best decisions and draw up a structured action plan. Here are 3 questions to ask before choosing a financial planner.

Is it taxable?

Lottery winnings are not taxable. Same thing when you inherit cash or life insurance when you are the beneficiary. The interest you earn from investments made with the money, however, is taxable, unless you invest the money in an RRSP or a Tax-Free Savings Account (TFSA). To learn more about the differences between these 2 types of investments, see Compare TFSAs and RRSPs.

Investments are not taxable when inherited by a spouse. They are transferred directly to the spouse's account. The same applies to RRSPs.

Investments are taxable when a child or third party inherits and makes a capital gain. For example, you inherit shares that your father purchased at $16 per share. When your father died, the shares were worth $22. For the Canada Revenue Agency, these shares cost you $22.

  • If you sell the shares at $22, there is no taxable capital gain.
  • If you keep them and sell them later for $30, you will have to declare a capital gain of $8 per share ($30 - $22 = $8), which is taxable at 50%.

Principal residences are not taxable.

The tax implication for a bequeathed income property or cottage will affect the deceased, not the heirs. Exception: when a spouse inherits a secondary residence or income property, there is an automatic rollover (transfer) of the property with no immediate tax implications for anyone.

Tools and tips

Impulse buys

Craving everything in the shopping centre? Here is a list of questions to ask yourself before you go.

Read tip - How to avoid impulse purchases

Your personal balance sheet

Use this simulation tool to calculate your net worth by drawing up a list of what you have and what you owe.

Draw up balance sheet

Debts to pay?

To help you decide where to start, check out the 5 steps to organizing your finances.

See section - 5 steps to problem-free finances

Interested in investing?

The Invest according to your needs section will show you how.

See section - What you need to know about investments
 

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