Managing Major Income, With Harness Wealth

We Have A Winner!

This guide contains a few specific tips for American Finimizers. But if you’re reading it elsewhere, never fear – there’s something for everyone.

Pennies from heaven

It’s the stuff dreams are made of: you log in to your bank account one day and your balance is suddenly an awful lot chunkier than it was. A big cash bonanza – whether that be a bonus, a bunch of shares vesting, or (less cause for celebration) an inheritance – often has the potential to be life-changing. But you’ve got to be careful: mo' money can mean mo’ problems.

While your first instinct might be to splash out on some new toys (we’ve always liked the look of the personal submarine…), an influx of wealth can bring more headaches than a non-equalizing ear (seriously, we really want that submarine). Without careful planning, money can disappear as quickly as it came: if the Ghost Rider himself can have $150 million and still wind up broke, so can you.

What kinds of problems are we talking?

Nothing is certain but death and taxes – and both of those could cause you issues. Most large financial gains will be subject to hefty taxes if you’re not careful, and death can also wipe out another chunk of your wealth. You need to start thinking about the things anyone with serious simoleons does: planning your finances to make sure you’re spending, saving, and preserving your money in a way that’ll keep it around for years to come.

But don’t fret. If you want to maximize the benefits of your newfound wealth both during your lifetime and after you’re gone (your kids might enjoy the submarine too), there are steps you can take to make yourself better off.

In this guide we’ll go through what you can do now to prepare for a windfall that might come later (focusing on inheritance, bonuses, and employee shares); and if you’re lucky enough to land a whopper, we’ll talk through what you should do with it. Keep all pots o’ gold inside the vehicle – we’re headed down rainbow road…

Optional Extras

If you think a windfall might be headed your way in the coming years, it’s smart to start laying the groundwork now: a bit of prep today can save you a ton of money later. That’s especially true for startup employees – you need to be prepared for how the value of any skin you have in the game will change as the company grows.

Early to bed, early to rise

If you work at a startup, chances are you’ll get some kind of equity in the company in return for those long, long days. That’s normally offered in the form of stock options. This isn’t the same as being given shares in the company outright – instead, you’ll get given the option to buy shares if you so choose. With any luck, your contract will allow you to pay well below market value to exercise those options, acquiring your small slice of the company at a relatively small price. If all goes well and your company eventually gets acquired or floats on the stock market at a higher share price than you paid, you’ll suddenly have a pretty valuable bunch of stock on your hands.

But that doesn’t mean you can just forget about your options until payday. For one thing, you may want to file an “83(b) election” with the taxman within 30 days – a piece of paperwork that means you pay income tax relative to the value of the company when your stock options were granted, rather than when they vested. If your options “vest” over time (meaning you get a little more each year) and the company’s value increases during that period, sending off an 83(b) form and paying your taxes up front could save you a significant chunk of change. But if the company’s value goes down – or if you leave before your options vest – you’ll lose out.

Generally speaking you should also make sure to exercise those options as early as possible. Buying the shares will cost you, but it could be worth it. Even if you haven’t filed an 83(b), exercising as soon your options vest will mean lower (and more spread-out) income tax payments if the company continues to grow over time. For another thing, if the taxman considers your startup a “Qualified Small Business”, you may be able to avoid federal taxes on up to 100% of your gains when it comes to selling stock – up to the value of $10 million (or 10-times the cost of your stock) – as long as you exercised your options and bought it more than five years before. And if your stock is worth more, if you’ve held it for over a year then your profits will be subject to a lower rate of capital gains tax overall. The founder of Pinterest may have had to pay a whopping $150 million extra in taxes when the company went public, and all because he didn’t exercise some of his options earlier...

Look into the future

It doesn’t matter whether you work at a startup or a big public company: if you’re offered share options, you should make sure you know when those options vest. You don’t want to quit your job two days before you get access to a big tranche of options – that’d be one miserable leaving party. And as we’ll look at in later sections, you might also want to put in place a plan to start selling some of your stock as it vests. In any case, it’s important to make sure you juggle your broader financial landscape to take account of your big skew towards one equity investment.

Windfalls are a nice problem to have. But like Cassandra, you should always consider the hidden costs of a gift from the gods...

It Takes Money To Make Money

Every silver lining…

Be prepared for some big costs when a windfall comes your way. If you’ve been #blessed with a bonus or vesting stock, your annual income could end up being much higher than normal – and that could bump you up a tax band, meaning you have to pay a bigger bill. And as we just discussed, selling any stock might mean you have capital gains taxes to deal with too. Make sure to keep track of the money coming in so you can file everything correctly at the end of the year: you don’t want the taxman to take your submarine away…

If your newfound wealth comes from an inheritance, you might find yourself saddled with other costs. Estate tax is one concern, and in some states heirs have to pay inheritance tax too. Plus there are the legal, accounting, and miscellaneous fees involved in probate, or dealing with the dearly departed’s possessions: a phenomenon immortalized by Dickens. If the person you’re inheriting from is smart, this can be reduced (more on that in the final section); but harder to avoid are the costs of owning new things.

Owning ain’t free

Though a new car might seem nice, you’ll have to get it insured and, in some places, pay a tax for owning the vehicle. And if you inherit a house, expect loads of extra costs. If the home comes with a mortgage, you might have to pay that back immediately – which could mean you have to sell the house. Even mortgage-free homes come with a price: utility bills and maintenance costs can quickly hammer your new wealth.

The best way to deal with these costs is to be prepared. If you know they’re coming, putting in place a financial plan to make sure your windfall will go far enough to cover them is key. Once you’ve set up a plan (and perhaps consulted an advisor), you can figure out what to do with the rest of your money – but don’t go spending it all just yet…

The Golden Goose

The big day’s here: you’ve received your inheritance, your startup just rang the bell at the stock exchange – your net worth is more than you could ever have hoped for. Congratulations! But be careful: a big bank balance can be intoxicating, and you don’t want to fritter your fortune away.

Cashing out

That’s if you even have a fortune yet. If your newfound wealth has come by way of an initial public offering, you’re probably not allowed to sell your shares for around six months (what’s known as the “lockup period”). If the stock has tanked when the lockup ends (as risked being the case with companies like Lyft) you might end up with a significantly smaller amount than you hoped for – and risk being caught up in an unseemly rush to sell among your fellow employees. Remember that until the cash is in your bank account, there’s no guarantee you’ll ever see it.

As for how to get that cash – once any lockup period has ended, you’re free to sell your shares as you wish (as long as you comply with insider trading laws). If the share price is low, you might want to cross your fingers and wait for it to rise. But trying to time the market like that is risky: though prices tend to rise in the long run, the stock could also fall while you wait, leaving you with even less.

Instead, you could slowly reduce your stock holdings over time, hopefully riding out any moves in the share price. That has the added benefit of slowly reducing your wealth’s concentration – it’s never a great idea to have all your eggs in one basket, even if that basket is your employer. But it may not always be the right approach: selling too much could mean you miss out on significant growth in the future. Factoring your selling into a carefully considered wider financial plan is crucial.

Spread your wings

Selling some stock doesn’t mean you should keep your wealth in cash instead: inflation will reduce its value over time if you do. Instead, you should put your money to work, using it to generate a return so that you end up even better off as time goes on. If you’ve got any debts, pay those off first – getting rid of these costs will set you up nicely for the future. And don’t feel like you have to be too responsible: everyone has to treat themselves a little bit.

But once you’ve had your fun, you need to think about what you’re going to do with your brand-new brass. A balanced portfolio is a good idea: something split between bonds, stocks, and cash, with the proportion allocated to each based on your risk tolerance: if you’re young, you can probably afford to take more gambles than someone closer to retirement. Speaking of retirement, it’s never too early to think ahead: putting in place a plan that’ll keep you and your family comfortable in later life will save any nasty shocks down the line. Rental property, bonds, and dividend-bearing stocks could help provide an income even when you’re past doing so.

With any luck, your financial plan will allow your cash to grow over time – and thanks to the law of compound interest (which means your returns themselves generate further returns), you could find yourself both richer and wiser in your old age. And as we’ll explore in the final section, that money doesn’t have to disappear when you do.

Beyond The Grave

If you want to spread the wealth around – and make it to outlast you – there are several things you can do ahead of time to keep your money alive when you’re gone.

Trust them

For a start, if you’ve got a bunch of money you want to leave to your loved ones after you die, you might be able to pass more wealth on by gifting them things during your lifetime. Each year you’re able to give up to $15,000 to as many individuals as you like completely tax free. That means a regular stream of gifts you can afford to part with while you’re alive could save your loved ones a bunch of estate taxes when you kick the can.

Beyond that, you’ll want a will to dictate where your money goes after you die. And if you’ve got more than a bit of cash, you might want to set up a trust as well. These can exempt your loved ones from certain taxes, as well as put conditions on the wealth (for example, you could say your kids only get their portion after they graduate college). A charitable trust can also be a great way to put your wealth to good use, even before you start pushing up daisies.

Trusts can help you out while you’re still walking and talking, too: the assets in a trust no longer count towards your net worth, so you might move down a tax bracket; and charitable trusts offer tax deductions of their own. You’ll have to contact an attorney or estate planner to set all this up, but depending on how much cash you’ve got, it could be worth taking the time. Be aware, though, that many trusts are “irrevocable”, which means you can’t remove beneficiaries once it’s established – even if your kids don’t help with the washing up.

All this post-death postulating might sound a bit morbid, but when you come into money you should definitely plan ahead, if only for your loved ones’ sake (future or otherwise). It’s an inevitable occurrence, and if you die without instructions on how to handle your wealth, your estate might spend years getting dragged through the courts – not exactly a fun activity for grieving families.

The Windfall Washup

So there you have it. An influx of cash can be a really exciting thing, whether it’s a big bonus, exercised stock options – or even an inheritance. And with a bit of advance knowledge, careful planning, and smart investing, you could make that money last for generations. Big windfalls can completely change your life, and the lives of others, if managed correctly – but it’s important that you do manage them. Given that you’ve just come into a lot of money, spending a bit of it on expert help negotiating the finer points of tax, trusts, and financial fruition might not be the worst idea.

If you’re lucky enough to be expecting a windfall, then congratulations. And get ready – a whole new world might be right about to open up…

This guide was produced in partnership with Harness Wealth.

Harness Wealth's platform helps people to identify ways to optimize their financial returns, tax efficiency, and family estate plan – and connects them with advisors to make those opportunities a reality.