Side Hustles Should Help Pay for Future Hassles by Faith Doyle, MBA, CFP® Webb Investment Services, Inc. Financial Advisor, RJFS
It seems everyone these days has at least one side hustle. The reasons for that vary from increasing one’s income, to making ends meet, or fulfilling a dream or passion. This extra money can help pay for more fun, travel, better opportunities for the kids, etcetera. What should you do with all that extra income? An important option to consider is using some of that extra income to help reach your financial goals faster. This extra income can provide the wiggle room you need to help ensure your current and future hassles are covered. If you do have a lucrative side hustle, there are a few things to consider to make it both beneficial to you now and in the future.
Once your side business begins to bring in money, you should first consider covering the basics by using some of the extra income to cover yourself in an emergency, and to manage debt. How much do you need in your emergency fund? According to Bankrate1, one should have three to six months’ worth of expenses in cash reserves.
A Few Good Tips with an Emergency Fund:
Hold this cash in a separate bank account than your everyday spending
Use it to pay for unexpected expenses
Base the amount that is deposited into it off your monthly budget
If your income is unsteady, or you only have one household income, you need to have closer to six months’ worth of expenses in the fund at all times
Next, you should tackle your debt. Not all debt is created equal – look at the non-asset backed and high interest rate debt first, like credit cards. I like using a debt calculator to see what extra money can do to save on interest by paying down the debt faster. If you are goal-oriented, this can be exciting to see how your extra efforts can potentially save you thousands of dollars on interest.
Once the basics are covered, you should look into using a portion of that extra income to invest in the future. You can look at this through two lenses: mid-term and long-term. With investing, you want to begin with the end in mind, and in this case that end is retirement, which is a long-term investment. The first step should be working toward maximizing retirement savings.
If you have a main hustle with a 401k, your first goal should be to ensure that you are maximizing your individual contribution. In 2022 that maximum individual contribution is $20,500, and if you are 50 or older that maximum is $27,0002. If you don’t have a 401k, consider an IRA or Roth (depending on your total income) and maximize that at $6,000 per year ($7,000 if you are 50, or older2). Can you save more than $6,000 annually? If so, consider an owner only or solo 401k that allows an even greater amount of tax deferred savings potential. You should consult with your CPA and financial advisor to determine the amount you could potentially save.
Once you have maximized retirement savings, consider investing in a taxable account. In these accounts the taxes that are predominantly generated are on the gains from investments. These types of accounts can be accessed without extra penalties at any age, unlike retirement accounts. The tax treatment on these types of accounts makes them a nice option for mid-term and even long-term investments such as a future down payment on a house, a pool of assets to help pay for your child’s future education, or to be used in retirement as assets that aren’t taxed as income to name a few.
Finally, make sure that your strategies are addressing the increased tax burden you have created by generating extra income. Consider escrowing a portion of your extra income to cover your increased taxes. Also, some side hustles pay a portion in cash, so you should claim that cash as income to increase your future Social Security payments. After all, Social Security payments are based on your forty highest earning quarters. The more you claim as income, the higher your payments could be (up to the maximum salary taxed for Social Security of $147,000 in 20223). To help ensure that you have a strategic tax strategy based on your personal situation, work with a team of professionals who can advise you on the best ways to save and plan for those taxes. This team should include a financial planner/advisor, a CPA, and potentially a good business attorney.
Sources:
Emergency Fund Amount: How Much In Emergency Savings? | Bankrate
IRS announces changes to retirement plans for 2022 | Internal Revenue Service
Benefits Planner | Social Security Tax Limits on Your Earnings | SSA
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