5 Smart Ways to Spend a Tax Refund
Getting a tax refund? Here are 5 smart ways to spend it so you improve your personal finances, rather than hurt them.
Laura Adams, MBA
If you look forward to getting a tax refund every year, remember that it’s not a gift from Uncle Sam. You probably worked hard to earn that money last year, or you qualified for some big tax deductions, or both.
So before you spend your tax refund on something frivolous, consider 5 smart options for using it that could dramatically improve your personal finances:
Option #1: Build Your Emergency Fund
If you don’t have at least one month’s living expenses saved up, use your tax refund to start an emergency fund—or to boost your current savings.
See also: 3 Emergency Fund Mistakes to Avoid
Make a goal to accumulate a minimum of 3 to 6 months’ worth of living expenses in an FDIC-insured bank savings account. Having a healthy emergency fund gives you peace of mind and financial protection against the unexpected, such as a broken-down car, a high medical bill, or lost income.
Option #2: Pay Down Credit Cards
Do you have expensive, high-interest credit card debt? Kill it with your tax refund!
See also: The Credit Score Survival Kit – a free video tutorial to build credit fast
Even if you can’t pay off all your cards, cutting your balances reduces the amount of interest you have to pay. Plus, you’ll also improve your credit utilization ratio, which helps increase your credit scores!
Option #3: Pay Down Loans
Maybe you have installment debt weighing you down, such as a student loan, mortgage, or car loan.
See also: How to Pay Lower Interest Rates on Debt
Let’s say you have a $20,000 car loan that charges 6% annual interest, and you’re 10 months into a 60-month term. If you got a $2,500 tax refund and used it to pay down the loan, that payment alone would save you over $650 in interest. Plus, you’d pay off the loan 8 months earlier!
Option #4: Fund a Retirement Account
It’s smart to use a tax refund to fund an Individual Retirement Arrangement or IRA. For 2015, you can contribute up to $5,500 (or $6,500 if you’re age 50 or older) to a traditional or a Roth IRA. Check out 10 IRA Facts Everyone Should Know for more.
Option #5: Save For a Special Occasion
It you have short-term savings goals, such as taking a vacation or creating a cushy holiday gift fund, you could use all or a portion your tax refund to achieve them.
Use a bank savings account that’s separate from your everyday checking or payment account, so you’re never tempted to spend it.
How to Adjust Your Tax Withholding
If you receive a large tax refund year after year, it may mean that too much tax is being withheld from your paycheck throughout the year. Instead, adjust your withholding so you increase your paycheck and put the extra money aside into savings or investments to build wealth.
Use the IRS Withholding Calculator to help complete a new Form W-4opens PDF file , Employee’s Withholding Allowance Certificate, for your employer.
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About the Author
Laura Adams received an MBA from the University of Florida. She’s an award-winning personal finance author, speaker, and consumer advocate who is a frequent, trusted source for the national media. Money-Smart Solopreneur: A Personal Finance System for Freelancers, Entrepreneurs, and Side-Hustlers is her newest title. Laura’s previous book, Debt-Free Blueprint: How to Get Out of Debt and Build a Financial Life You Love, was an Amazon #1 New Release. Do you have a money question? Call the Money Girl listener line at 302-364-0308. Your question could be featured on the show.