When tax season arrives it’s time to gather those receipts and crunch those numbers! For millions of Americans, it’s also a time of great anticipation as we await the annual windfall that is our tax refund.
Before spending all your refund on a new TV or that new car that will saddle you with high payments for the next 5-6 years, take a deep breath and think about how you can use that money to improve your current and future financial situation. Here are some ideas:
Shoring up your financial foundation
- Establish or strengthen your emergency fund – Most experts recommend having 3-6 months of expenses saved in an emergency fund to deal with unexpected expenses or even bigger events like job loss and illness/injury. Starting with $1,000 – $2,000 will get you on your way and allow you to stop using credit cards to deal with unexpected bills.
- Pay down high interest debt – If you have credit cards or other high interest debt (north of 6% interest rate), using your refund to pay that down will save you a lot of money in interest. Once you pay off your cards, stop using them! Breaking the cycle of debt (see emergency fund above) will allow you to save for other goals and keep more of your hard-earned money.
- Save for retirement – Using your refund to fund an IRA to help you prepare for retirement may not seem as fun as a trip to Vegas – but is a great way to get the most bang for your refund buck.
Give your financial goals a boost
We all have financial goals that we are saving for, and a tax refund is a fantastic way to give those an extra boost! Here are some examples to consider:
- Saving for college – Open or add money to the kiddos 529 plan.
- Saving for retirement – Increase your savings into your 401(k) or IRA.
- Vacation – Set more money aside for that next vacation.
- New car fund – The more cash down you have, the lower your monthly payment, which means less money spent on interest.
Split your refund
It is ok to treat yourself with your tax refund, but be careful about spending all your refund on indulgences. Split your refund to take care of past, present, and future you!
- Past You – Pay off those lingering debts.
- Present You – Treat yourself! Take 10-20% of your refund to get or do something for yourself.
- Future You – Increase your savings for emergencies or other goals.
Evaluate your withholdings
While getting a big tax refund each year feels like a bonus or gift, the truth is you overpaid the government throughout the year. It amounts to an interest free loan that you give to Uncle Sam. If you typically receive a large refund each year, consider using the IRS Withholding Estimator to determine how much you should have withheld from each pay check.
The goal should be to get a small refund each year (around $100 or $200) – nobody wants to write a check to the IRS every spring. While your refund may be less, you will have more money in your paycheck to reach your financial goals more quickly, so if you do make adjustments, make sure you make the most of the extra dollars each pay day. The key with that increased take home pay is to make sound decisions each month to improve your overall financial situation.
Your Next Steps
- Decide how your tax refund can best be used to reach your goals – remember, a little indulgence is ok!
- Review your withholdings and adjust if necessary, to keep more of each paycheck where it belongs – with you!
- If you need some help deciding what to do with your refund or looking at your withholdings, speak with a Financial Coach.
Making good choices with your tax refund and go a long way to improving your financial situation – now and in the future. Focusing on your priorities may not get you all the things you want right now, but it will help you get the things you want most in the long run! Happy Tax Season!