It's fun to dream about winning the lottery and all the things you could buy with the money you get. Once you win, it's time to consider the more practical side of such a windfall, such as how the taxes will work and which bills you'll pay off first. One practical decision you'll have to make right away is whether to receive the payment in a lump sum or in the form of an annual distribution.
Factoring in Taxes
The amount of your lottery winnings can determine whether receiving yearly payments might put you in a lower tax bracket. In the case of a large lottery win, such as a $400 million lottery, you'll be in the top tax bracket whether you get yearly payments or your payments all at once. But if your lottery win is smaller, the result could be different. In 2013, married taxpayers who filed jointly ended up in the top-paying tax bracket if they made at least $450,001 a year. In other words, if your lottery winning's yearly payments amount to more than $450,001, you won't save on federal taxes by choosing yearly instead of a lump sum. You might even lose money if tax percentages increase in future years.
Consider Personal Spending Habits
It might seem hard to imagine, but some people blow through their lottery winnings and end up right back where they started. A consultant for lottery winners told the "Tampa Bay Times" in 2013 that about 70 percent of lottery winners end up spending all their winnings within five years. If you have a tough time managing your finances or resisting big purchases when money's in your hand, then the yearly sum could be a better choice for you. If you blow through all your money in the first year, you'll still have future payments in coming years.
Inflation Versus Investment
Some people choose to get their earnings in one lump sum so they can invest all the money at once and live off the interest. This option can do well if the investments are successful. But if the stock markets tank, you might regret your choice. However, annual payments come with their own bite. If your state's lottery doesn't adjust the annual payment amount based on inflation, the money you receive years down the road might actually have less buying power than if you had received that amount today.
Age Can Play a Role
Your age can also play a role in whether or not you want to take money via a lump sum or annual payments. A young married couple would likely want the annual sum, because they'll be around to enjoy the payments. A retiree, on the other hand, might prefer a lump sum. If she chooses yearly payments and dies before the payments are finished, the money will go to her estate. But having payments added to an estate every year can be complicated to work out legally.
- BananaStock/BananaStock/Getty Images