Like many taxpayers, you may receive a large tax refund at tax time every year. Unfortunately, that refund is not a gift to you from the IRS: It simply means that you had too much income tax withheld from your wages and the IRS is returning the amount you overpaid. By having too much withheld, you basically gave the government an interest-free loan.
On the plus side, you may regard the extra withholding as a kind of forced savings program. So once you have the refund in hand, don’t just spend it right away. Instead, consider what you will do with those hard-earned savings. Here are some ideas for putting your money to work for your financial benefit every day of the year.
Pay Down Debt
It is tough to get ahead when you are spending a lot of your income to pay down debts. Paying hefty interest charges on credit cards and consumer loans can hold you back financially. If you are carrying this type of debt, this could be a good time to use your tax refund to pay down a good chunk of what you owe.
Create an Emergency Fund
Surprises can sometimes be expensive. An unexpected auto repair, a sick pet that requires expensive treatment, a major household appliance in need of immediate replacement — situations like these can create a financial emergency. If you don’t have sufficient funds available to pay the bill, you may be forced to rely on your credit card. An emergency fund is intended to cover unexpected expenses. And it should have enough in it to cover at least three to six months of living expenses just in case you were ever to lose your job. Consider using your tax refund to start or add to an emergency fund.
Start a College Savings Program
If you are a parent, you already know that attending college is an expensive undertaking, one that’s unlikely to get less expensive over time. Opening a college savings account, such as a Section 529 plan* or a Coverdell Education Savings Account (ESA), can help build college savings in a tax-smart way. You could use your tax refund to open — or add to — a college savings account.
Invest in Yourself
Use the money to learn new skills, enhance existing ones, or broaden your knowledge in other ways. Whatever your occupation, further education or training can enhance your earning power. Investing your tax refund in yourself is a smart investment.
Add to Your Retirement Security
Use your refund to increase your potential for a financially secure retirement. Consider opening a traditional individual retirement account (IRA) or a Roth IRA to supplement any savings you have in an employer-provided retirement plan.
Going forward, you may want to consult a tax professional to determine how much income tax you should have withheld from your pay to cover your tax liability without receiving a big tax refund. Then, you could increase the amount you are contributing to your retirement plan. Over time, your increased contributions would potentially help your retirement plan account grow.
Talk to a financial professional for insights on how to manage your money and make the most of your finances.
*Certain benefits may not be available unless specific requirements (e.g., residency) are met. There also may be restrictions on the timing of distributions and how they may be used. Before investing, consider the investment objectives, risks, and charges and expenses associated with municipal fund securities. The issuer’s official statement contains more information about municipal fund securities, and you should read it carefully before investing.
