Personal Finance Finesse: Leveraging the Third Paycheck Theory

There are pros and cons attached to getting paid bi-weekly, when twice a year you receive a third paycheck.  Most people budget on a monthly basis, accounting for two paychecks.  When this third paycheck comes around, it’s often money with no budget category!

It’s always a good feeling to get more money in the bank in some months when that magical third paycheck gets to happen.  But the wise will make the most of that sudden windfall scenario.

Here are some pointers on how to take the best advantage of that extra cash to improve your financial position.  This will include a quick explanation of how you end up with more money in certain months.  You’ll also get  some tips on how to get the maximum benefit from the boost to your finances.

Do the math

So how do you get that third paycheck?  Well, for bi-weekly payments it’s a pretty easy calculation.  There are twelve months to a year, right?  Most months see you getting two paychecks.  That works out to 24 paychecks we budget for.  Still with me?  But there are 52 weeks per year, meaning that you actually get 26 paychecks.  That’s two extra!

The obvious thing to do when working out your pay dates would be to say that you are paid every two weeks on a Friday.  So you get two paychecks per month, except for those months when the stars align and you wind up with three.

Making the most of the situation

If you sometimes find yourself stretched you may consider a short term loan.  An alternate strategy would be put aside the extra cash into an emergency fund in advance of your needs.

If you only get a third paycheck a couple of months a year you definitely have to take advantage of the situation.  Put that extra cash to good use rather than being tempted to go and blow some of it on extra treats.

Saving your extra money like this is a really neat budgeting trick that is as painless as it is sensible.  Once you have your finances sorted and are used to being paid bi-weekly, you should be able to put aside that third paycheck when it comes.  Over time, you’ll build a nice cushion.

Pay down debt

Another good way of making the most of your opportunity would be to use the extra paycheck to pay off some debt.

Image from Morguefile courtesy of xenia

You can use this to pay down a credit card whose balance never seems to budget.  Or, wipe out a small loan payment that has a high interest rate.  If you pay something off completely, you’ll have the extra advantage of more cash flow flexibility.

It might not feel like a major step when you pay a chunk off your credit card balance but the net effect is a good one as you are reducing your debt profile and saving some interest charges at the same time.

Put it towards retirement

The plain truth is that you can never have enough money in your retirement fund. So, putting your extra pay toward retirement savings is a very sensible strategy.

The general suggestion is that you need to save at least 10% of your income towards retirement.  In reality, you could use more in order to have a comfortable retirement.  This is even more important if you waited to start saving until your thirties (or later).

Reduce your monthly payments

If you pay your auto insurance and other insurance payments monthly rather than annually that can add up to a fair amount each month out of your bi-weekly wages.

You might want to consider using the third paycheck to pay an insurance policy in full.

This will free up more cash on a monthly basis when you take one or two annual financial commitments out of your monthly budgeting schedule by paying the amount due in one hit.

Take a break

If you don’t like the sound of using your third paycheck to improve your debt, you could consider planning a vacation.  Before you sound the alarms, let’s face facts that everybody needs a break now and then.  If you’ve gone on four vacations in the last year, maybe this isn’t for you.  But, if you have avoided a trip away, a mind clearing time away could be just the ticket.

Besides, if you pay for the vacation, that means you won’t be borrowing or adding to your credit card debt.  At the very least, you won’t be falling behind.

The third paycheck is not just a theory but a mathematical reality for many.  Make the most of that extra cash when it comes along if you are paid bi-weekly.

Aimee Pope is a financial consultant. She likes to help people manage their money better by posting on various family and finance blogs.

7 thoughts on “Personal Finance Finesse: Leveraging the Third Paycheck Theory”

  1. We always put the extra paycheck to good use: vacation. And of course, if there’s anything left, we just top off the emergency fund.
    We get 2 of these a year, one in winter and and one during summer. Frankly, I’d add both to our savings, but my boyfriend is right (as usual): we do need to have fun every once in a while.

  2. You can turn the semi-weekly pay principle on its head, to your advantage. Arrange to pay your car loan or mortgage every two weeks, instead of monthly. This will mean you make one extra payment a year, which shortens the loan to a degree.

    In theory, if you can live on your semi-weekly pay without those so-called “extra” paychecks, you could apply the full amount of each to the loan. For a car loan, at least, that would probably go further toward shortening the term of the loan.

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