After putting in all the effort and hard work last year, the time has finally arrived for the rewards. You got a promotion, a new job title, and a salary increment. Congratulations! 

Here are some effective steps you can take to improve your finances:

But first, wait for your new salary!

While getting an increment letter is extremely gratifying, check its actual impact on your take-home salary. Approach HR, find out the complete break-up of the salary after the increment, and compare it with your previous salary. What component of salary has increased and what are its tax implications?

Many a time, the increment is front-loaded in a way that the annual bonus and provident fund get a large share.  Moreover, you might likely shift to a higher income tax slab with its resultant tax implications. So, wait a month or two to decipher the impact on your take-home salary.

Don’t forget to factor in Inflation

It is not just your income, but also the prices of everyday items such as groceries that keep rising every year. So, revisit your household budget to check to what extent your household expenses have increased and their impact on your savings. It will give you a sense of an actual increase in real income and spending power. 

Apply the 50% thumb rule

While a small raise might not amount to much, if the increment is large, aim to save and invest at least 50% of it. For instance, if you get an increment of Rs 10,000, as a thumb rule, save and invest at least Rs 5,000 of it while continuing with your regular investments. 

In a way, you are using the new money to earn more money.

Consider this, Rs 50,000 invested every month gets you a corpus of Rs 6.68 crore at the end of 25 years (assuming you invest in equity funds giving a return of 10% pa). Adding 5% each year will help you achieve the above target amount in about 21-22 years. In addition, letting it accumulate will increase the corpus to Rs 10.03 crore at the end of 25 years. 

Many financial planners factor in a 5-8% annual increase in SIP contributions to achieve long-term financial goals such as retirement and children’s higher education. Salary increments can ensure you are doing it without a financial stretch. If you are in your 40s, Just look at your salary growth over the last decade – chances are you could have afforded a 5% bump up each year in your SIP amounts.

Get rid of costly debt

If you have too much debt, focus on retiring loans first. Consider retiring debt – credit cards, personal loans, car loans, home loans; in that order. Credit card debt carries the highest interest rate of 40-45% p.a., while it could be up to 15-20% for personal loans. Use lump sum received as annual bonus to prepay high-cost loans. 

With the recent spike in interest rates, home loans and other liabilities have put an additional burden on households. If you want to rid of your home loan faster, and if it’s possible, consider increasing the EMI. 

Revisit your original plans

While making your original plan, you might have skipped certain goals like international holidaying due to a lack of funds. Or set a lower target for retirement. Revisit these goals in the context of your improved income levels. 

A financial plan only makes a ‘fair’ estimate of the returns of various asset classes. For instance, many financial planners today estimate 12% annual returns from equities while planning for retirement.

Underachieving the corpus target might result in compromising one’s retirement lifestyle. You can build a buffer against such uncertainties by investing more than what a calculation suggests is the requirement.  

Bump up your emergency fund

If you don’t have a sufficient emergency fund, build one. A job loss or a medical emergency can throw household finances off gear. Ensure you have an emergency fund that is at least equal to six months of household expenses. It will give you peace of mind and a financial buffer in a stressful situation.

Avoid Lifestyle creep

Making more money tends to lead to spending more money, a phenomenon known as lifestyle creep. For example, you have a car, which is perfectly fine.

After getting a raise, you just about become eligible for a bigger loan to buy a brand-new luxury car. And you buy the new car after trading your old one and with a hefty loan. It gives you a great driving experience and a status symbol but monthly EMI payments that you can barely afford. The key is knowing the difference between what you need and want. 

Invest in yourself

You got an increment because your employer is happy with your performance. To keep the competitive edge, you need to upgrade your skill sets and enhance your professional value. So, ensure part of the money goes towards attending workshops and courses that will keep you ahead in the corporate world.

While doing all this, ensure you are not missing out on the fun. A salary hike is a cause for celebration. Pat yourself on the back for the hard work done and go for dinner with friends or bring home that laptop that your daughter asked for.     

Takeaway

It is a natural impulse to indulge and savour the moment. However, it is critical not to lose sight of long-term financial goals and keep investing more.