What to do with a million bucks?

NEW YORK (Money) -- Question: I'm 23 years old and have recently come into a considerable sum of money -- just under $1 million. While I know that sounds great, I'm afraid I'll make mistakes handling it. I've already noticed that my close friends have suddenly become experts in how to spend a million bucks. My question: How should I manage this money? Do I put it in real estate, CDs, hedge funds? At this point, I think I might have to use some of it to buy anxiety medication. Please help. --Daniel, San Jose, California

Answer: Ah, the crosses we sometimes have to bear.

Clearly, with the unemployment rate hovering just below 10% and hundreds of thousands of homeowners facing delinquency or foreclosure each month, you're not going to get much sympathy for your plight from many people.

But that doesn't mean you don't face a daunting challenge. Fact is, there are any number of ways that people who suddenly find themselves holding great wealth can lose it almost as quickly as they came into it, especially when they're young and inexperienced.

If you keep your cool, use some common sense and avoid a few simple pitfalls, however, you should be able to parlay your good fortune into a lifetime of financial security for yourself and, eventually, your family.

Here are the three most important things you need to do.

Avoid the big-spender syndrome. You've heard of pheromones, those chemicals produced by insects and animals that can attract the opposite sex? Well, large sums of money also apparently give off an alluring scent. Come into some dough, and it's not long before all sorts of people come sniffing around, egging you on to spend so they can share in the bounty.

But while the urge to ratchet up your lifestyle (not to mention that of your friends) after receiving a windfall is understandable, you need to resist it. A million bucks is a lot of money, but it's not enough to live large on for very long. Start spending on expensive cars, lavish entertainment, a palatial apartment or home, and you can easily run through your dough before you hit 30.

That said, you want to be realistic. It's natural to want to enjoy yourself a bit after falling into big bucks. The trick is not to go overboard.

So I recommend that you set aside a small amount of money as an emergency fund and perhaps to allow yourself a reasonable splurge or two, say, a new car if you need one, a nice vacation, whatever. But aside from that try to maintain a lifestyle that's in line with your income. In other words, try to live as if you don't have nearly $1 million salted away. By doing this, you'll still have this money to fall back on later in life should you want to start a family, go back to school, switch careers, start a business, pay for kids' college tuition, etc. In short, by exercising some restraint today, you'll preserve the option of being able to draw on these funds in the future when you're likely to need the money more than you do now.

Pass on complicated (and costly) investing schemes. Many people have this notion that once they have high six or seven figures to invest, they need to be in "sophisticated" investments like hedge funds or engage in complex strategies like shorting some stocks or indexes while simultaneously going long with others.

But sophisticated is often just another way of saying expensive. Many hedge funds charge upwards of 2% a year of your account value and take 20% of any profits. I'm not saying they can't generate good returns, but it's tough to overcome such a high expense hurdle year after year.

And while intricate investment strategies always sound enticing -- and can typically be backed up with scads of data showing how they performed in the past -- the reality is that the more complex a strategy is, the more things there are that can (and often do) go wrong.

That's why I think someone in your position is usually better off putting together a portfolio of plain-vanilla investments such as low-cost mutual funds or ETFs like the ones that appear on our Money 70 list. To keep taxes to a minimum, you can consider sticking to index funds or tax-managed funds (or in the case of bond funds, municipal bond funds).

Given the large sum you'll be investing, you can likely qualify for special classes of fund shares that, in the case of some index funds, can bring your annual cost below 0.10%, or less than $10 a year for every $10,000 invested. Low costs don't guarantee superior returns, of course. But the less a fund siphons off in fees, the more of whatever returns it earns go into your pocket.

Be careful if you decide to hire an adviser. Although I don't think someone in your position automatically requires professional help, some people feel more comfortable with a bit of hand holding. If that's the case for you, fine. You just don't want that helping hand inappropriately helping itself to your money.

At the very least you want to be sure you don't get hooked up with an outright crook like Bernie Madoff. But even beyond that, you'll want to stay away from advisers who are looking to steer you into investment products that pay them high commissions (and hit you up for big fees). Not to pick on the insurance industry, but your antennae should always go up whenever someone touts investments that include an insurance component, such as annuities and variable universal life insurance.

And certainly before you do business with any adviser, take the time to vet his or her background, and make sure that you understand the investment or service being touted and that you know what it costs.

So hold off on that anxiety medication and instead think about the issues I've raised here. If you do that, you should be able to come up with a reasonable plan that will allow you to enjoy some of your newfound fortune today, and still have even more around to enhance your financial security for the rest of your life. To top of page