Imagine waking up to an unexpected $10,000 windfall. Some people might immediately book a vacation or buy groceries without checking the price tags, while others might pay off credit card bills, tuck the money into a retirement fund, or cut back on overtime hours at work.
For centuries, economists from Thomas Malthus to John Maynard Keynes have suspected that a person’s existing bank balance dictates how they handle newfound wealth. Testing that idea has proven difficult because researchers rarely get to see every side of a household’s financial life at the same time.
In an NBER working paper, Rajashri Chakrabarti of the Federal Reserve Bank of New York and her colleagues at several U.S. and Canadian institutions tracked thousands of Canadian lottery winners to see where every dollar of a financial windfall goes. They found that lower-income winners put a much larger share of their prize toward consumption, whereas higher-income winners directed more of their windfall toward paying down debt, building investments, and taking time off work.
The challenge of tracking every dollar
Understanding how households divide unexpected money requires tracking day-to-day shopping, debt payments, investment contributions, and job earnings across the entire income spectrum. Previous studies using income tax records could see wages and investment income, but they could not observe spending directly and had to estimate it from whatever money was left over.
Other studies used consumer surveys or records from individual banks to measure shopping habits, but those sources often missed long-term retirement accounts, total debt balances across multiple lenders, or shifts in annual salaries. Many cash-transfer studies also focused primarily on low-income households, leaving open the question of how higher earners respond to the same dollar amount.
To overcome these blind spots, Chakrabarti and her co-authors examined 40,872 individuals in an anonymous Canadian province who won a single lottery prize between $1,000 and $250,000 from 2004 to 2021. Canadian lottery prizes are well-suited for studying wealth shocks because they are paid as a single lump sum rather than annual installments, and they are completely exempt from income taxes.
Following the money through credit and tax records
Because Canadian privacy laws prohibit merging a citizen’s tax returns directly with their credit report, the researchers built two separate, anonymized datasets from their pool of lottery winners. In the first dataset, they linked 11,703 winners who won prizes averaging $8,363 between 2015 and early 2020 to quarterly records from the credit bureau Equifax Canada, tracking them for two years before and two years after their win.
Unlike credit reports in the United States, which generally record only end-of-month balances, Canadian credit files include the actual dollar amount a consumer pays toward their credit card bill each month. By combining monthly bill payments with changes in card balances, the researchers calculated each winner’s credit card spending and scaled that figure up to total household consumption using national payment and housing surveys.
In the second dataset, the team linked 30,000 winners from 2004 to 2017 to administrative tax records from Statistics Canada, following their finances for five years before and five years after their payout. These tax returns captured annual wage earnings, income taxes paid, and money held in both taxable investment accounts and tax-sheltered savings plans.
In the credit dataset, the researchers measured pre-win income using the average household income of the winner’s immediate neighborhood, an area covering just 400 to 700 residents, while the tax dataset provided each individual’s exact pre-win income. Comparing winners who received larger prizes against those who won smaller prizes in the same period allowed the team to isolate the causal effect of each extra dollar of lottery wealth.
Spending, saving, and buying free time
Across the full sample of winners, a lottery windfall triggered immediate changes in spending, saving, and work habits that persisted for years. Over the five years following a win, the average recipient allocated 38 cents of every dollar won to consumption and saved 19 cents, split between paying down existing debt (9 cents) and accumulating financial assets (10 cents).
Winners also used their windfall to buy themselves free time, reducing their after-tax wage earnings by 15 cents for every dollar won over the five-year period. Closer analysis of the two-year employment records showed that nearly 89 percent of the earnings reduction came from workers trimming their hours or shifting into lower-paying roles rather than quitting the workforce altogether.
Adding up consumption, savings, and reduced take-home pay accounted for 71 cents of every lottery dollar after five years. Much of the remaining gap comes down to the difference between upfront spending on major durable goods, such as houses and cars, and the gradual consumption value those goods provide over many years.
When a winner takes out a mortgage to buy a bigger house, only five years of living in that home counts toward five-year consumption. When the researchers counted the full upfront expenditure on new mortgages and auto loans instead of just the five-year consumption flow, they accounted for 89 cents of every dollar won, with the remaining 11 cents likely going toward unmeasured checking accounts or spouses working fewer hours.
How low- and high-income winners diverge
When the researchers separated winners into groups below and above the median income over a two-year window, they found sharp differences in how the two groups used their money. Winners with below-median income spent 25 cents of every lottery dollar on consumption over the first two years, compared to 15 cents among winners with above-median income.
Higher-income winners devoted a larger share of their windfall to improving their balance sheets through both debt payoff and investing. Over the first two years, above-median earners saved 32 cents per dollar won by reducing their debt by 12 cents and adding 20 cents to financial investments, while below-median earners saved 24 cents by cutting debt by 7 cents and investing 16 cents.
The divide was widest when it came to working less. Over the two-year period following a win, high-income winners reduced their pre-tax wage earnings by 14 cents per dollar won, more than three times the 4-cent reduction observed among low-income winners.
Fast spending and what it means for public policy
Economists frequently use lottery windfalls to predict how households will respond to government tax cuts or ongoing cash transfers. A common approach assumes that lottery winners treat a prize like a lifetime annuity, spreading the money evenly over their remaining decades of life, which would mean tapping roughly 5 cents per dollar won each year.
By combining the observed shifts in consumption, wages, and taxes, Chakrabarti and her colleagues found that winners actually tapped about 10 cents per dollar won each year over the first five years. In other words, people drew down their lottery prizes roughly twice as fast as a lifetime-smoothing model assumes.
Out of each dollar of windfall money that winners actually put to use in a given year over that five-year span, low-income winners spent 88 cents on consumption and reduced pre-tax earnings by 16 cents, offset slightly by lower tax bills. High-income winners spent 54 cents on consumption and cut their pre-tax earnings by 68 cents, cushioned by a 22-cent drop in taxes paid.
The researchers demonstrated how these behavioral differences can alter the math behind three major public policies. In a simulation of a $1,000 stimulus check sent to the 17 million Canadians below the median income, using the population-average spending rate predicted a $3.42 billion consumption boost over two years, whereas using the actual low-income spending rate predicted a $4.32 billion boost (a 26 percent larger economic impact).
When the team modeled a Universal Basic Income, the tendency of households to front-load their spending and work reductions meant that a $1,000 annual transfer caused labor earnings to drop by 92 cents per dollar received, compared to 60 cents under the assumption of smooth lifetime spending. Because front-loading shrinks the pool of taxable wages more quickly, the government would need to levy a higher income tax surcharge to fund the program.
The authors also evaluated tax rates on top earners by comparing windfall responses against the broader concentration of income and spending in Canada. The researchers argue that high earners save more not simply because saving is a luxury people adopt once they get rich, but because high-earning individuals have a stronger underlying preference for saving; factoring in those preferences and front-loading behavior lowered the model’s optimal top labor income tax rate from a traditional benchmark of 57 percent down to 35 percent, while pairing it with a 33 percent tax on savings.
Open questions on household choices
The authors note several limitations in their data that point toward future research. Because tax returns and credit files track individuals rather than entire households, the study cannot capture how much of a lottery windfall is spent, saved, or used to fund time off work by a winner’s spouse or other family members.
The administrative records also cannot explain the personal motivations behind these financial habits, such as why some winners prioritize paying down loans while others put cash into retirement accounts. Whether the divergent habits of low- and high-income households stem from differences in financial patience, neighborhood environments, or early-life experiences remains an open question for economists to explore.
