Eight Smart Ways to Spend a Hefty Windfall

It's everyone's favorite fantasy: a nice, huge windfall.

Maybe that scratch-off lottery ticket pays off big, or that dusty vase in the attic turns out to be a collector's item, or that stock you've been hoarding turns out to be worth a bundle.

Suddenly you're sitting on a nice mid-five-figure gift that you weren't expecting, and that's after taxes.

Now what?

Facing this envious dilemma, you might want some savvy guidance. With that objective, Bankrate.com asked several financial experts for their advice for managing a hefty windfall.

The 3-Pocket Approach

Karen Altfest, executive vice president of L.J. Altfest & Co., a financial planning firm in New York, says to concentrate on three strategies.

"What you're going to do is think of it as pockets," she says. "You've got three pockets, divide the money in thirds. Take the first pocket and use it to pay down anything that you think should be paid down: your child's education, your debt, your mortgage. Get rid of something and make your life a little easier.

"Then, save for something in your future -- your next car, your vacation, your old age. Third is that you're a good person. Do something nice for yourself now. A vacation or something special you've always wanted," Altfest says.

Add to Your Emergency Fund

Sandy Shore, counseling supervisor of Novadebt, a nonprofit, credit counseling agency in Freehold, N.J., says start or supplement your emergency fund.

But how do you determine how much to save?

"You have to look at your individual situation," Shore says. "Is there another income? If one of you became unemployed, how much of a hole would that leave? How secure is your job? If you're one step away from being unemployed, I would say look at how long you think it would take you to get a job.

"Six months is a pretty good ballpark for most people," she says.

Add up your monthly bills and obligations (including taxes), and subtract any unemployment you'd receive. Then bank at least that amount. And if you already have some saved, use the windfall to take that savings to your goal amount.

Save and Slash Debt Simultaneously

Dave Jones, president of the Association of Independent Consumer Credit Counseling Agencies in Fairfax, Va., recommends socking away at least $10,000 into a savings account if you have debts but no savings. Then spend the rest to eliminate or pay down your debts, concentrating on your highest interest rate obligations first.

If you have savings and no debt, you could consider low-risk investments, such as a money market fund or other "balanced low-risk fund," Jones says.

Almost as important is what to avoid: "impulsive spending on inane perishables," he says.

Take it Step by Step

Lynnette Khalfani-Cox, author of "Zero Debt: The Ultimate Guide to Financial Freedom," says the best solution is to tackle the problem in a series of steps.

"Get professional financial help. Find a qualified adviser to help you set a budget and do long-term financial planning," Khalfani-Cox says.

"And give yourself time. Resist the urge to do something -- anything -- immediately. Don't feel like you have to do anything at all with the money right away," she says.

If you decide to invest, plan beforehand. "Be strategic about making any big moves," Khalfani-Cox says. "Don't just give in and start buying stocks, bonds or mutual funds without a plan."

Create a plan to deal with money requests, she says. It takes away the guilt when you want or need to say "no."

"The idea is to create a buffer between you and all the friends and family who will ask for money," she says. "Consider using an intermediary -- either an individual or an institution -- to handle the requests."

Assess Your Weaknesses

Gail Cunningham, spokeswoman for the National Foundation for Credit Counseling in Silver Spring, Md., advises people to approach a windfall by first looking at areas where you are financially weakest. Then, use your windfall to strengthen your position.

Behind on the mortgage? "The best use might be to catch up," she says. "This will eliminate late fees, which only add to the balance."

Paying only the minimums on credit cards? "A good use could be to put the money toward the debt with the highest balance," she says.

Or, pay off a small bill. "This feeling of accomplishment often encourages a person to keep knocking off bills," Cunningham says.

If you're financially stable but without savings, you're "really on a slippery slope," she says. Using your windfall to start or augment your savings account could create a safety net for emergencies.

If you're stable financially, consider splitting the money between one of the above and a personal reward. "Treating yourself to a reward for responsibly handling your money can be an incentive to continuing this behavior," Cunningham says.

Save It!

Larry Winget, author of "The Idiot Factor: The 10 Ways We Sabotage Our Life, Money, and Business," says "Don't buy anything."

"It's an opportunity, a real opportunity to fix everything you haven't been doing right," he says.

First, pay off your high-interest rate credit card. Then, stash your windfall away. Consumers should create a savings equal to at least three months' worth of household expenses. Put the rest away for retirement. "That would be the top three things that I would say to do," Winget says.

"But whatever you do, don't buy something that's going to immediately depreciate when you write the check: cars, clothes, food, vacation," he says.

Credit Cards and Home Repairs

Ron Phipps, president of the National Association of Realtors, says consumers should pay down their credit card debt.

"Simplify your ongoing financial responsibilities. Make life easier. Reduce your overhead," he says.

After that, look after your No. 1 investment. Focus on needed home repairs or equity-generating improvements, he says. Or, reduce an ongoing expense like your monthly utility bill by installing energy-efficient appliances.

After that, "I'd probably say if it were truly a windfall, I'd find something I'd like to do that I'd enjoy: an arbor, a garden or a spa/whirlpool," he says.

If your house and your credit card accounts are in good shape, consider buying a rental property. "The goal would be to take that money and leverage it," Phipps says.

What if Your Financial Picture is Rosy?

If your finances are healthy and this is truly extra money, then remember the 80/20 rule. "Save 80 percent, spend 20 percent," says Wayne Bogosian, co-author of "The Complete Idiot's Guide to 401(k) Plans." "Follow the 80/20 rule and you won't have any regrets."

How do you spend it? "Any way you want," he says. Buy things that last or do some philanthropic giving, he says.

For the savings? Aim to max out IRA and 401(k) contributions for you and your spouse over the coming years, he says.

"If your income is outside the Roth IRA limits, open a nondeductible IRA and immediately convert it to a Roth IRA," he says. Your objective over the next eight to 10 years should be to deposit all or most of your 80 percent into a Roth IRA and then into a 401(k).