Four Things You Can Do With a Salary Increase

One of the best things you can hear from your boss is that you’re getting a raise. You might start making plans for the money as soon as you hear the good news. But, make sure your plans include a few things that will improve your overall financial well-being.

Put it toward your debt. A pay raise is perfect to accelerate your debt payoff. If you haven't been able to pay more than the minimum, a salary increase will give you the opportunity to put more money toward your debt. Aim to eliminate high interest rate credit card debt first. Then, work on auto loans and student loans. Finally, pay off your mortgage once you’re past the time where you’d incur a prepayment penalty.

Build an emergency fund. An emergency fund is a savings account that you can use to pay for emergency expenses. For example, you can turn to your emergency fund when your car needs unexpected repairs. Without the emergency fund, you might have to pay for the emergency expense using a less favorable method, like a credit card or a cash advance. Or potentially worse, delay the expense until you can afford it.

The ideal emergency fund is 6 to 12 months of living expenses, but it’s ok to start out with a short-term goal of $1,000 or $2,000l. Set aside the increase from a few of your post-increase paycheck to build up your emergency fund.

Save for retirement. You have to prepare now to avoid a major lifestyle change once you hit retirement. That means saving up enough money to live on once that time comes. If your debt is paid off and you already have a sizable emergency fund, you can use your salary increase to max out your 401(k). Maxing out your retirement accounts is especially beneficial when your employer matches your contributions.

You can also save and invest outside the retirement plans your employer offers. Fore example, you can trade stock, purchase bonds, invest in an annuity, or deposit the money in a money market account or certificate of deposit. Talk to a financial advisor to get an idea of your options.

Save for your other goals. You might want to save up enough money pay for your kid’s college education. Or perhaps you want to pay cash for your next car. You can save the salary increase and use the money to pay for your family vacation instead of using a credit card. Don’t forget about holidays and birthdays that you typically spend money on.

Other Considerations

Keep in mind that part of your salary increase will be eaten up with taxes. The extra income may even push you into a new tax bracket. Make general plans about what you'll do with your raise, but don't plan around a specific number until you see just how much of your raise shows up in your paycheck.

If you’ve been living paycheck to paycheck, a salary increase will give you some much-needed breathing room in your budget. However, you have to be careful that you don’t increase your cost of living just because you now make more money. If you were living comfortably on your old salary, there’s not necessarily a reason that you need to increase your living expenses by adding luxuries.