Sudden wealth can take many forms, including selling a business, winning the lottery, reaching a legal settlement, or the result of an inheritance.
Receiving a large windfall, especially when tied to the death of a loved one, can trigger powerful and conflicting emotions that may lead to risky financial decision making.
Below are some common pitfalls of sudden wealth and ways to overcome them.
Pitfall #1 – Hasty decision making
Do you ever hear of lottery winners going broke only a few years after they won a large sum of money? How is that even possible?
I think it’s because these ordinary people all of a sudden became extraordinary. They become euphoric and lose all sense of reality.
No matter the source of the windfall, it can oftentimes trigger those visceral emotional responses and all logical thinking goes out the window.
The best course of action to take after a windfall is to do nothing – at least for a while. Take a step back and figure out your priorities and create a plan.
Determine what decisions you have to make in the short-term, like tax planning, and what decisions you can wait to make, such as how to maximize the impact of your newfound wealth.
Pitfall #2 – caving to the pressure
Once friends and family learn that you’ve received a large sum of money, they may have an expectation that they are entitled to it. Depending on your relationship with those people, it can be hard to say no.
Once you start giving money away though, it’s difficult to reverse course.
The easiest solution is to rely on a third party to act as a gatekeeper, such as your financial advisor or attorney, to intercept the flood of requests and take the emotion out of the decision-making process.
Pitfall #3 – Withholding information
A windfall can prompt people to be more close-lipped about their finances. Some feel uncomfortable about their new wealth, others feel isolated from their former peers, and still, others are wary of those seeking handouts.
This instinct to withhold information often extends to your financial adivsor as well.
However, during every big transition, especially sudden wealth, it is critical to provide your advisor with a full picture of your financial situation. Your advisor will serve as a partner to assist you through the decision-making process and help you to spot issues before they become problems.
Pitfall #4 – Failing to update plans
After receiving a financial windfall, it is crucial to review the financial planning framework you previously had in place.
Financial plans will almost always need to be revisited, along with insurance policies and estate plans.
Your financial advisor can lead this team — financial advisor, lawyer, accountant, and insurance agent — to create a plan for your future that stays true to your priorities and goals as your financial situation changes.