Five Ideas for Your Tax Refund: In this FinStream video, Brad Wright, CFP from Launch Financial Planning, presents 5 ideas for your tax refund.
Article by Brad Wright, CFP from Launch Financial Planning
Let’s assume you file your tax return on time, and you are due a tax refund. That news always seems to be received better than if you owe Uncle Sam. Think about that for a moment though: you are receiving a tax refund of your own money, which you lent to the government for FREE. This was not a lottery win. The government is not sharing “extra” money with you, nor any interest for the privilege of using your money over the past year. I’m not so sure the government would return the favor if you owed them. Yes, a large tax refund is a forced savings strategy, but there are better ways to save if you can manage to be a bit disciplined.
As an example, I once met someone who regularly received a $7,000-$8,000 tax refund each year and had an outstanding credit card balance of $10,000. Instead of waiting for the refund and then forwarding it to pay down the credit card debt each April, along with the accrued interest for the prior 12 months, it would have been wiser to reduce tax withholdings and direct that savings to the credit card on a monthly basis. That would reduce both the monthly bill and amount of interest paid.
To be fair, it’s very difficult to get your tax refund to net out exactly at $0, but you can probably get it lower than $7,000. You should speak with your tax preparer to determine the best strategy for you.
Now, if you’re receiving a smaller refund, more in the range of $1,000-$3,000 what should you do with it?
Take stock of your personal financial situation and determine your needs, which are different for everyone, of course.
Here are the five ideas for your tax refund: 1. Add to your Emergency Fund: Many people cannot afford a $1,000 unplanned expense. It’s a good idea to have six to nine months of expenses parked in an interest-bearing account in case something comes up, such as a car repair or medical expenditure. 2. Pay Off High Interest Debt: Like the example above, if you owe on a credit card, payday loan, a debt consolidation loan, or any other high interest-bearing loan, pay it down, apply your tax refund. These high interest rate debts can really eat into your cash flow and depending on your debt load on each card or loan, they may also hinder your credit score. 3. Invest in a Tax-deferred Account: If you haven’t been maximizing your retirement account contributions because of limited cash flow, you could increase your contributions and use your tax refund as cash flow. Ironically, this may help lower next year’s tax bill, as well. 4. Make Energy-efficient Home Improvements: Consider ways to lower your energy bill. 5. Learn Something New: We’ve all witnessed the economic and employment changes that COVID-19 has caused over the last year. Seek out training to better prepare yourself for the new “normal,” whether you’re seeking to enhance your current career or pivot to an entirely new path. If you truly don’t need the money in any of these areas, you could make a charitable donation to benefit your community and perhaps deduct the donation next year. If 2020 has taught us anything it’s that we should prepare for the worst, while hoping for the best. The overall economy should slowly get better as we all get vaccinated, but in this case a rising tide does not necessarily lift all ships, at least not at the same time. Yes, you can have some fun with your money too. We could all certainly use some fun! Just make sure that you’re taking care of yourself along the way… for whatever comes next.
About the author: Brad Wright, CFP®
Brad Wright, CFP® is co-founder of Launch Financial Planning, LLC, a fee-only firm located in Andover, MA. He is a frequent contributor to WCVB-TV and Mix 104-1 Radio. Brad is Chair of the Financial Planning Association of Massachusetts. Learn more about Brad at www.LaunchFP.com . The opinions penned here are for general information only and not intended to provide specific advice or recommendations for any individual. Launch Financial Planning does not prepare taxes.The foregoing information has been obtained from sources considered to be reliable, but we do not guarantee that it is accurate or complete. Any opinions are those of Brad Wright.
To watch more videos on Finstream featuring Brad Wright, please click this link: https://www.finstream.tv/featured/brad-wright/