You’ve gathered all the paperwork, and you’ve gone through all the TurboTax prompts (not to mention three cups of coffee). With one final click, here comes the moment you’ve been waiting for — the part that makes blowing a whole Saturday doing your taxes totally worth it: the official amount of your tax refund.
Maybe it’s enough to pay off the last of your Christmas credit card bills. Maybe you’ll use it to fix up the house, or to fund your family’s summer vacation, or pay down a big chunk of student loan debt. Awesome, right?
Well, a lot of personal finance experts will tell you that’s foolish — that you basically gave the government an interest-free loan for the past 12 months.
If you had invested that money instead, the logic goes, you’d have earned some interest or even some investing gains from it.
And yes, that’s true… in theory. But for most of us, it’s a total crock. You and I both know you that, if you’re anything like the average American, you weren’t about to invest that extra $20 a paycheck.
Two thirds of Americans carry a credit card balance from month to month. More than half don’t have enough cash to cover an unexpected $500 expense. And even a third of Americans earning more than $75,000 a year live paycheck to paycheck.
If there’s one thing most of us desperately need, it’s someone to force us to save our money — even if it’s our cranky old Uncle Sam. “In MY day, we saved up for a car and bought it in cash!” he bellows. And he’s right.
We often lament the disappearance of pension plans, but they were essentially just forced savings vehicles, siphoning away a pretty hefty chunk of an employee’s salary in exchange for a defined monthly payout in retirement. Meanwhile, the transition to “letting us invest that money ourselves instead” — the age of the 401(k) and IRA — has led to a nationwide retirement crisis. The median retirement savings of 55- to 64-year-old Americans was just $14,500 in 2013, according to Bloomberg.
It’s okay to loan money to your old Uncle Sam – he’s good for it. Photo: Dan Ramirez
The lesson is clear: Most of us can’t be trusted to sock away our money responsibly, or are simply unable to do so when faced with stagnant wages and fast-growing expenses such as college, health care, and big monthly bills that didn’t even exist 25 years ago, like smartphone and Internet plans.
So don’t let anyone tell you that getting a big refund check from your old Uncle Sam is a bad financial move. Forcing yourself to save is almost always a good idea.
And with interest rates so low, even if you had been diligent enough to put that money into a high-yield savings account, you’d have earned all of $15 in interest on an average $2,800 refund.
However, you’re not entirely off the hook. What matters most of all is what you do with that money now.
What to Do With Your Tax Refund
It can be excruciatingly tempting to treat yourself to a splurge when you find yourself holding a check for a thousand dollars or more — and, OK, one nice dinner out isn’t going to derail your retirement plans. But make sure you do something productive with the bulk of that big check, instead of wasting it fleeting purchases you won’t remember in a month’s time.
Here are some great ways to put your tax refund to use:
Pay Off Debt
If you’re swimming in high-interest credit card debt or student loans, paying down a huge chunk of it in once fell swoop will feel like a major victory that can inspire you to keep attacking it. Plus, it will give you some immediate breathing room by lowering the amount of interest you owe each month.
- Related: 11 Ways to Get Out of Debt Faster
Start an Emergency Fund
We can’t stress this enough: You need an emergency fund. On the baseball diamond of life, the pitcher likes throwing curveballs, from busted mufflers to sudden illnesses. These can create serious financial and emotional stress, but a good-sized emergency fund — enough to cover three to six months of expenses — can relieve some of that stress.
Kickstart your emergency fund with $1,000 of tax refund money, and then automatically add a few bucks to it each week.
Open or Fund a Roth IRA
One of the best ways to save for retirement is through a Roth IRA, if your income falls under the acceptable limits (which start at $116,000 for single filers and $184,000 for married couples in 2016).
That’s because with a Roth, unlike a 401(k) or traditional IRA, you’re able to withdraw your contributions as well as any investment gains completely tax-free in retirement. You pay taxes on the front end with a Roth, investing after-tax dollars — such as your tax refund, or any of your take-home pay.
- Related: Roth IRA vs. Traditional IRA
Plan a Vacation
The average American family planned to spend about $1,000 per person on their summer vacation last year, according to American Express. Depending on the size of your refund – and your family – see if you can plan your entire summer vacation for less than you received back from the IRS. (Don’t worry, you don’t need to take Uncle Sam along with you.)
While we’ll never feel bad about our vacation spending, there are plenty of ways to trim the cost of a trip so your tax refund will cover it. Try camping part of the time, visiting national parks or other frugal destinations, or cashing in credit card rewards points. Buy Something That Will Save You Money
While we don’t advocate throwing your refund check at a new flatscreen TV or a trip to the mall, there are lots of purchases that may actually save you more money than they cost in the long run. A slow cooker can pay itself off quickly if it means you cook at home more often. A bike for commuting to work can save you money on gas, parking, and expensive wear and tear on your vehicle.
Start Investing
Whether it’s in an IRA or a traditional brokerage account, most mutual funds (even low-cost index funds) require a $1,000 or $3,000 initial deposit, but then allow you to contribute smaller amounts in the future, such as $100 a month. When it comes to investing, it’s always best to start early, and the average tax refund can get you up and running.
Tackle a Home Improvement Project
Spring and summer are the ideal seasons to take on home repairs you’ve neglected or a big remodeling project, and making smart upgrades to your home is usually a pretty sound investment if you’re not overextending yourself to do it.
Start a Down Payment Fund for Your Next Car or House
When it comes to buying a car or a house, the larger the down payment you can make, the less you’ll have to borrow — which means lower monthly payments and, often, better loan terms. If you’re planning to make a major purchase in the next couple of years, get started with a specially designated down payment fund.
Did you get a tax refund this year? What are you planning to do with it?
Related Articles:
- Best Tax Software for 2016
- A Retirement Tax Trick You May Not Know About
- Don’t Waste Your Tax Refund: Four Better Ways to Use It
The post Loan Money to Family? Sure, If It’s Uncle Sam appeared first on The Simple Dollar.
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