If you were given $500, no-strings-attached, what would you do with it? Splurge on a round-trip plane ticket to Hawaii? Buy a new sofa? Head to the mall?
If you’re like most people, you may feel tempted by the lure of a feel-good splurge. Will you avoid temptation, though? Research shows you’re more likely to choose something more responsible – such as tucking the cash away for a rainy day or using it to pay off your credit card.
According to a new study released by the New York Federal Reserve, most people who receive a modest windfall are relatively conservative about how they use it. Rather than dramatically increase their spending, they typically sock away the money and continue spending as usual as if nothing’s really changed.
A windfall of $500 won’t change much
Despite stereotypes depicting U.S. consumers as spendthrifts just waiting to blow their money, the vast majority of the Fed survey’s respondents – around 75 percent – said that an extra $500 would make little difference to their spending.
Just 19 percent said that they would spend a large portion of the cash.
People were more likely to increase their spending at least somewhat if they received a larger amount – such as $2,500 to $5,000. However, a number of studies have found that even four-figure financial windfalls don’t usually prompt people to dramatically change how much they spend.
A March 2017 Bankrate survey, for example, found that only 6 percent of consumers planned to fritter away their tax refunds (which, for many people, amount to several thousand dollars a year).
Rather than spend the money on one-time vacations or shopping sprees, most people planned to use the money to improve their financial positions or help make ends meet when money was tight.
For example, 34 percent planned to tuck it away in a savings account or investment fund, 29 percent planned to use it for everyday expenses and 27 percent planned to use their tax savings to whittle down debt.
Similarly, a January 2018 study by the JPMorgan Chase Institute found that a significant number of consumers use their windfalls to pay for medical care that they had delayed.
New York Federal Reserve researchers say part of the reason why people are so conservative with their windfalls may be because they just don’t have much money. For many people, modest windfalls are more like life rafts and safety nets rather than opportunities to buy things they don’t need.
People instead tend to be more reactive to negative shocks, the Fed study found – such as a sudden loss of $500. Since a loss can ultimately lead to missed bills or other mishaps, people are more likely to modify their spending to make up for it.
My advice: Splurge first, then pocket the rest
When I receive a small financial windfall, I don’t typically change my spending behavior. However, I don’t save all of it either.
Instead, I stick to a general rule that has served me well over the years: Anytime I receive a financial gift, bonus or other unexpected sum, I set aside 10 percent for a purposely frivolous splurge – such as an extra nice restaurant meal or a massage – and then I put the rest in savings.
The splurge makes me feel good and gives me a chance to revel in purchases I wouldn’t otherwise allow myself to make. It also helps me avoid feeling deprived.
Another benefit: By limiting myself to just 10 percent of the financial windfall, I make sure that I don’t overdo it, and I still benefit financially.
It’s similar to the common weight loss advice that urges dieters to allow themselves treats so that they don’t later overeat because they are famished or resentful.
If you’re lucky enough to receive a financial windfall one day, you’d be smart to tuck away most of it or use it to chip away at your credit card debt or other loans. But go ahead and spoil yourself – at least a little – too.
See related: 6 steps to handle a sudden financial windfall,