How to Handle Your First Pay Hike?

If you are reading this article with great interest, it seems you might have received a pay hike for your performance. Congratulations! Your hard work has been paid off. Now, what are you going to do with this extra income earned?

Are you thinking of increasing your budget or spend lavishly, then you are taking a wrong step. Perhaps, you may think, your pay hike means more cash in hand, more money to spend. If you get carried away by such attitude, you are ruining your finances.

In the first six months of your job, when you were still a fresher, your finances were strained because you had personal expenses such as professional tools, work dresses, shoes, food, etc., making it difficult for you to build an emergency cash fund. Now, that all your needs are fulfilled and you also received a pay hike, it’s time to act on saving the extra income.

Here is a guide on ‘what to do with your pay hike’. It will help you in managing your surplus income in an effective way. Below is an example to make it easy for you to understand.

Let’s assume your salary got hiked from Rs 12,000 to Rs 14,000, generating a surplus of Rs 2,000. Before the pay hike, when you were earning Rs 12,000, let’s suppose your living expenses were Rs 8,000, discretionary expenses of Rs 2,000 and a surplus amount of Rs 2,000. And with the pay hike, you have an extra amount of Rs 2000 in hand. The first thing you need to do is ‘adding the extra income to emergency cash fund’.

It is always better to keep aside your six months of living expenses as an emergency cash, that is to say – 6*8,000 = Rs 48,000. So, you need to keep the surplus of Rs 4,000 (earlier surplus + new salary’s surplus) in emergency fund, until it makes a total of Rs 48,000 (it takes 1 year for you to reach that amount).

Don’t allow your routine expenses to grow: Now, you are getting an extra income of Rs 2,000. You may be tempted to spend on things that you did not spend earlier before pay hike. For example: You may get a hair-cut for Rs 150, earlier you used to spend Rs 50 on it. You may spend Rs 100 on a taxi, earlier you used to spend Rs 20 on auto. As you have more money in hand, you are more likely to spend on expensive things to increase your living standard.

At best splurge 20% of monthly increment: Instead of making small routine purchases, make a one-off purchase by saving at least 20% of your monthly increment for three months, rather than continuously purchasing one after the other every month. For instance, buy clothes, shoes, watch or helmet, after you save 20% of your monthly income for three months, the amount saved turn outs to be a bigger amount and the purchase you make will be of good quality.

Think about the long-term goals: Now that your 20% of monthly increment is utilized in the right way, you need to think about the remaining 80% of monthly increment. Consider it as a long-term investment funds. It is like self-audit. Plan ‘how much you need to save’ and ‘how much you need to spend’. Set a goal (money savings goal) and motivate yourself to reach the goal. Ex: Set a goal for buying a piece of land or a home or a flat etc.

With the remaining 80% of your monthly increment, you can invest in any of the following or both:

• Get self-insured with life and medical insurance. (You can buy term insurance for coverage of Rs 20 lakh and health insurance for coverage of Rs 2 lakh).
• Start saving in a recurring deposit (RD). It is the best saving product for salaried people.

Wait, before you increase your budget: With the pay hike, you need to wait for at least three years of continuous employment, before increasing your budget. You can increase the budget, only if any inflation takes place. That means, you can adjust money on regular expenses based on inflation rates, but you should not increase your budget for spending unnecessary things.

Points to note:

• Don’t ignore paying premiums for life and medical insurance.
• You can also consider taking cheap accidental insurance for Rs 10 lakh coverage.
• Make sure that you maintain liquidity in emergency savings. Spend your emergency savings only during emergency, otherwise keep them aside.

Lastly,

“Money is hard to earn, easy to lose. Guard yours with care”– Brian Tracy

People who have received their pay hike after hard work and facing hard times, such as recession and pink-slips, are clear on how to deal with it. But, young professionals who are still in their early stages of job should learn a lesson from them and wisely follow the sensible advice given to them by the experts.

Hope, this article has served your purpose on how to handle your pay hike.