If you are a salaried person like me, your annual bonus plays a big part in your annual compensation package. Everyone eagerly awaits the annual bonus month. Because, hopefully, it is a lot more money than you had been getting monthly and now your bank account suddenly looks good.
But getting a lot of money in your hand can also mean irrational financial decisions because you are not used to handling that amount. And this is where the problems begin. I am not saying don’t buy that car you have been waiting for or the new phone you were saving for. But, your annual bonus can be a big booster shot to your financial freedom if you use it effectively.
Welcome to my blog series – ‘In Pursuit of Financial Freedom‘. This is the 8th post in the series and if you have not read the earlier 7, I highly recommend giving them a read.
In this post, we will explore what are the different ways in which we can effectively use our annual bonus.
1. Top up your investments
This is the obvious one. If your investment goal is to retire with 1 Cr rupees and you have been investing 5000 per month, it is going to be a long long road ahead for you. So use that bonus money to top up your investments and give it a boost. Don’t worry about the market situation at that point and don’t go into analyzing mode that is the market about to crash. If your time frame is long term, you are going to see a few markets crashes irrespective. But eventually, in the long term, you can still expect steady returns. So don’t try to time the market. Just top up your investments.
2. Pay off Debt
This is another obvious thing to do with your annual bonus. If you have any high interest rate debt like credit card debt, student loan, automobile loan or personal loan, please pay them off. I have a home loan. While the interest rate in home loans is usually the lowest for any debt, I like to keep making part prepayments whenever I can.
There is an argument that a lot of people make that paying off home debt might not be most optimized as you can earn a much higher return with that money and later pay that debt with some money still in your hand. I am not one of those people. For me, financial freedom also means being able to sleep well at the night. And knowing that a few months of loan tenure has reduced gives me a lot of satisfaction.
When I took the home loan, the tenure was 30 years and thanks to floating interest rates, that tenure went up to 37 years at a point. 37 years! So I started making part payments whenever I could and in 3 years I have brought down the tenure to 9 years (partly also because of fall in interest rates due to covid). Needless to say, seeing my loan tenure up to 37 years was not fun at all. But bringing it down to 9 years has helped me sleep better. And I will continue doing that with my annual bonus each year and try to be debt-free in another 5 years (fingers crossed).
3. Invest in yourself
I have placed this higher up the order because I strongly believe in this. Your skills are the best asset that you have and they will give you the best returns than any other investment. Don’t believe me? Remember your first salary. Now, look at the salary you currently get. How many times has your salary grown? And in how many years? The numbers are different for different people but on average, you will see your salary double at least every 3 years (depending on the industry). Now show me any other investment option that doubles your money in 2-3 years!
My point? Invest in yourself. While time is the biggest investment you will need to make for yourself, you need money too. And there are many ways your annual bonus will help you. For example – enrolling in good training courses, buying books, buying equipment to learn and test a new skill, etc.
I would strongly recommend keeping some money aside every year as your learning budget and use it diligently so you can up-skill yourself.
4. Reward yourself
This is just as important. You have worked hard the entire year for this bonus. It is your hard work, your dedication that has earned you that money. So you should absolutely enjoy it! Take a vacation with this money. Or take yourself out for a nice dinner or buy yourself an expensive gift that you would otherwise not.
Rewarding yourself also gives you a sense of achievement, gratitude and satisfaction. It makes you happy. And what use is the money you earned if it can’t make you happy?
5. Park your funds for a while
If you are anticipating a big expense in a few months like making a down payment for buying a house or a car, a wedding, an upcoming vacation, etc then you should opt to park your annual bonus into a liquid fund or short-term debt funds rather than letting it stay in your bank. This is also true if you are unsure about what to do with your money right now and want to decide later.
I see multiple benefits of doing this –
- They offer better returns than a bank account
- As the name of the fund suggests, you can retrieve that money at very short notice (generally in 24 hours)
- If the money is not in your bank, you are probably not going to make unnecessary expenses
6. Build an emergency fund
I talked a lot about the importance of having an emergency corpus in my previous blog – The Basics: do this before investing your money. If you do not have enough money with you to cover your expenses for 3-6 months, your annual bonus is best to fill that gap. This is so you are protected from any unexpected emergency and it is very important. So if you have not done it yet, please do this first.
7. Rebalance your investments
The annual bonus is usually accompanied with an increment too. And this is the perfect time to rebalance and review your investments. There are mainly 2 things you should focus at –
- Relook at all of your current investments. Identify the non-performing assets and shut them down. Check if your portfolio is diverse enough. Check if your asset allocation is as per your plan. It could happen that because the market went up significantly, your equity exposure has gone above your plan and you need to rebalance that by investing some more in debt funds.
- Step up your SIPs. Your investment should increase in proportion to your income. So it is necessary that you also step up your monthly SIPs or any other investment plan you have for the upcoming year. Say you invest 10,000 every month and you have not got an increment of 20%. Then you should now be investing 12,000 monthly.
What are my plans for the annual bonus?
Like I mentioned in the points above, if we use the annual bonus effectively, it will boost your journey to achieving financial freedom. And that is exactly what I intend to do. My plan with what I do with that money changes every year considering the amount, my plan for that year and my needs or wants that year. So this is my plan for this year –
- Reduced my debt. I plan to use at least 50% (or more) of the amount to reduce my home loan debt. Home loan interests are the lowest right now and if you ask any sane financial advisor, they would ask you to invest that money instead. But I prefer having peace of mind which is an important part of my financial freedom.
- Rebalance my funds – I re-looked at my investments recently and have made changes to them based on the increment I am getting. I stopped SIP for one mutual fund because I had a similar fund already in my portfolio. In its place, I started a new small-cap fund. In addition, I have increased the SIP amount for all of my Mutual Funds. I also plan to increase my debt fund exposure because my equity exposure has gone up significantly last year and I need to add some protection there.
- Invest in me – I plan to keep at least 10% of the money aside for any learnings I want to undertake during the year. I also will use that money to buy books, courses, and maybe equipment for my blog and youtube channel.
- Reward me – I have had my eye on the new 24′ iMac and I have been convincing myself it will be a great investment for me and help me in my writing journey. So I plan to buy that as a reward for working hard last year.
Conculsion
I have said it multiple times in this blog post already – please use your annual bonus effectively so it helps you achieve your financial freedom faster. With a few hours kept aside a year, you can make a plan that is best for you. But it is important to take that first step rather than letting the entire amount go to one unnecessary expense that you will regret later.
I hope you found this blog post useful. What are your ideas for using your annual bonus effectively? Let me know in the comments below! Please subscribe to my blog so you get regular updates from me.
