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The lottery winner's curse: 5 lessons for savers

April 04, 2011

| MoneyRates.com Senior Financial Analyst, CFA

"In a 2006 survey, 30 percent of people without a high school degree said that playing the lottery was a wealth-building strategy," according to Wired magazine. While many readers of this site know that playing the lottery is a fool's investment, many people still play it because they think they'll beat the odds.

A recent GetRichSlowly lottery simulator points out just how low those odds are. But let's take a look on the flip side and consider what happens if you actually do win the lottery. Many past lottery winners have ended up figuratively 'cursed'--bankrupt or in debt only years out from winning. What can you learn from their mistakes?

The lottery winner's curse

A couple in North Carolina recently waited until nearly the last minute before claiming their $1 million Lotto prize. Mr. Raleigh Hill of Stallings, NC explained that he was reluctant to face all the hoopla surrounding lottery winners. Given the number of cautionary tales of lottery success turned bad, his hesitation may be understandable.

It's sometimes referred to as a lottery winner's curse--stories of people who won millions in an instant, but then went on to meet impoverished, and sometimes violent, ends. There isn't really a curse, of course, but just some rash mistakes people make with their money. These mistakes are not confined to lottery winners, but they tend to be most spectacular when millions are involved.

From all this, there are five lessons the couple in North Carolina, future lottery winners in general, and ordinary savers can learn about how to avoid turning good fortune into bad:

  1. Don't forget the taxes! Whether it is a lottery win, a bonus from work, or some other windfall, don't forget to set aside what is due to the tax man. This can be especially tricky if you receive merchandise rather than cash, because you will have to come up with the cash to pay taxes on the value of that merchandise.
  2. Life is long; wealth can be fleeting. Do you think a million dollars would last you a lifetime? What about five or ten million? The sad truth is that people have blown larger amounts than that. Even if your wealth or income seem limitless, it won't be if you spend it too fast. Do some lifetime planning to map out how your money will last over the course of your lifetime. Even rich people can benefit from stashing away money in savings accounts and living on a budget.
  3. Even the rich worry about inflation. Speaking of rich people, even those who are careful not to lose money have to worry about inflation eroding its value. Inflation may seem moderate from year-to-year, but it takes a heavy toll over the long-term. When you hear about lottery prizes like "win $50,000 a year for life," keep in mind that $50,000 may be down to about a quarter of its current purchasing power by the end of that life. The same principle applies to retirement goals--you might think that having $50,000 a year in retirement income is lofty enough goal, but if retirement is in forty years, you might be surprised how little that $50,000 will be worth.
  4. You only have to get rich once. Rates on savings accounts may not excite you, so the temptation might be to find something more sophisticated to invest in. Diversifying your portfolio is good, but steer away from the get-rich-quick schemes. In retrospect, people who've blown their money on shaky business deals would love to have settled for boring old savings account rates.
  5. Money may change your life; it shouldn't change your friends. One way to avoid getting burned by people who are more attracted to your bank account than you: don't treat people any differently than you did before you had money, and shy away from those who treat you differently.

Money may make life more complicated, but it shouldn't make life harder. Good fortune can come in a flash, but it takes good sense to make it last.

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