Nearly 80 percent of Americans who file a federal tax return receive a refund. For most, the refund is not “chump change,” but rather between $2,000 and $3,000. Review these do’s and don’ts to make good choices on how to use that money.
Do pay down credit card debt – and any other high-interest debts
Doing so, at typical interest rates, effectively makes an investment that can return 15 percent or more per year. To do so, start by determining a fixed monthly amount youcan pay toward your debt until all debts have been paid off. This amount should be more than the combined minimum payments on all of your cards. Then choose either the “avalanche” or “snowball” method to start paying down the debt.
Do build an emergency fund
Ultimately, this fund should include six to nine months’ living expenses. That’s the amount needed for base living expenses, not salary you may be used to living on. The idea is to build enough protection so that you do no need to rush to a credit card in the event of an emergency or unexpected expense.
Do add to retirement savings
Whether it’s an individual or Roth IRA, 401(k) or other plan, it is a smart move. Plus, if the program is tax-deductible, you will be benefitting your tax situation for next year, too.
Do educate yourself or your child
Got the above taken care of? Think about using a refund for a college savings plan for a child. Or fund your own education and build your financial future. A $3,000 refund could pay for a good portion of an associate's degree, for example. It’s usually a good investment. On average, associate's degree holders earn 23 percent higher salaries than high school graduates; holders of bachelor’s degrees earn more.
Do contribute to an HSA
If you have a health insurance policy that comes with a qualifying HSA (health savings account), take advantage of it and fully fund it. Most contributions are tax-deductible, and withdrawals to pay qualifying medical expenses – at any time in life – are tax-free. Essentially emergency funds devoted to health care costs, these accounts provide both savings and a tax benefit.
Do not neglect your home
If you own your home, a refund could cover major or minor maintenance to make sure no bigger (and more expensive) problems arise. Plus, these improvements can sometimes create additional equity.
Do not think the refinancing window is over
If you own a house and still have a high-interest mortgage, you may still be able to refinance. If your credit is good enough to do so, and it makes sense for your situation, you could save thousands more in interest charges over the life of the mortgage by using the tax refund to pay all or most of the costs of refinancing.
Do not forget others
Use part or all of a refund as a charitable contribution to help others in need. You’ll also benefit from a deduction on next year’s taxes (depending on income limits). Don’t forget to get a receipt for any donation.
Do not think retirement savings is limited to adults
If you’re already contributing the max to your own retirement savings, you can help a child get started. Kids who are earning wages can contribute as much as they earn, or up to $5,000, to a Roth IRA.
Do not leave your withholding alone
If you received a good-sized refund, you may want to see about adjusting withholding so that the government does not keep so much of your money during the year. Instead of giving the government a loan all year, use the extra cash in your paycheck throughout the year to take care of the items listed in the “Do’s” above.
None of these suggestions involved spending on a fun vacation, or buying a new tech gadget or new car. In the right situations, those can be good choices. But if you want to really spend smartly, think about these do’s and don’ts.
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