What To Do With a Raise?

pileomoney

I would like to take this opportunity to toot my own horn for a moment.  I got a promotion and a raise!  Yay!  More money, more to do.  Good times.

The question of what to do with a raise is often discussed in the personal finance world.  People can save more, they can raise their standard of living, they can do some combination of the two.  The answer for some is difficult.  While we all know that we should keep living just like we are and save our raise, we are not always that good.

I am a big fan of the percent contribution method of dealing with a raise.  If you make $40,000 per year and put 10% into retirement savings, you should stick with, at least, a 10% contribution if you get a raise to $45,000.  That way, your retirement contributions increase with your raise.  This is in contrast of putting in a fixed dollar amount, $4,000 per year at 10%, before and after the raise, because it would decrease to 8.8%.

Optimally, though, it might be even better to increase your contribution by a percent.  If you can get by living comfortably at $36,000 per year after retirement contributions before the raise, you can certainly continue to do so after the raise.  Why not split the difference?  Increase your contribution by half of your raise if you can, or something higher that what you are doing now.  It is easier to keep living the way you are today than to try to increase your contribution and adjust down later.

This time around, I am going to keep my retirement contributions the same by percentage, and will use the extra income to pay down student loans faster.  Hopefully I can put my next raise 50% to a house purchase fund and 50% to retirement.

That’s just my two cents.  What have you done with raises in the past?  Do you just keep it, keep contribution percentage the same and keep the difference, or raise your contribution?  Please say in the comments.