Did you know that your tax refund can help you improve your finances? At least, this is true if you know how to use it properly.
The refund that you will get from the government is the difference between the tax that you paid and what you actually owe the government. In most cases, people file their annual tax returns – which is a report of the income earned and other personal financial circumstances. The Internal Revenue Service or IRS uses this information to determine how much the taxpayer really owes the government. If it turns out that the taxes you paid is more than what you owe, the government will send you a check. They will return the difference so you only end up paying the taxes that you really owe the government.
For most people, this is an amount that they look forward to each year. It is treated as a special bonus – even if it is technically their own money. But since our taxes are taken from the top of our income, we hardly ever notice that it is gone. In fact, we only base our budget from our paycheck – which is after taxes. So if it turns out that you overpaid your taxes, it is like getting a holiday bonus.
According to an article from Forbes.com, only a third of taxpayers have submitted their tax returns before the end of February. The IRS is expecting to receive much more before the tax filing season ends. After all, some taxes are more complicated and thus takes more time to complete. Based on the report from the IRS, almost 80% of those who filed are eligible to receive a refund. So if you think that you overpaid your taxes, you have to work on filing your tax return now. The earlier you file, the earlier you will get your tax refund.
3 out of 10 Americans will use their tax refund to pay off debt
But what exactly are your plans for this money?
GoBankingRates.com, a personal finance website, published the results of their survey about how consumers will be using this financial windfall. Apparently, most Americans intend to use their refund money to either pay off their debts or to save it.
The survey asked 5,000 respondents and it revealed the following:
- 30% do not expect to receive a tax refund
- 27% will pay off debt
- 25% will save the money
- 9% will use it to fund a vacation
- 5% will use it to finance a major purchase
- 4% will use it to splurge on minor purchases
So what does his survey tell us about the financial behavior of Americans? Well, it is comforting that majority plan to use it to either pay off debt or save the money. This is actually two of the smartest things that you can do with your tax refund. Sometimes, people react to windfall money quite differently.
According to an article from ABCNews.com, getting some windfall money can be risky to your financial health. If you think that the financial future of a windfall recipient is secure – that is not always true. If it is followed by too much spending – that could be a habit that will lead to the destruction of their personal finances. In fact, 7 out of 10 big lottery winners usually end up being broke or in a worse financial condition than when they started. This is the reason why it is very important for you to think about how you will use the bonus that you will get.
It may be true that the tax refund is not as big as a lottery win but the average is actually quite a hefty sum. In 2104, the average amount that taxpayers got on their refund was $2,700. That is actually enough to feed a family of four for 5 months – at least if they are smart enough to spend on their food wisely. This is also enough to buy you a couple of year’s worth of car insurance. This amount is actually something that you can use to improve your financial situation. But then again, it all boils down to what you plan to do with it. Regardless of how much you receive, your decision to use it will ultimately play a huge role in helping you improve your finances.
Best way to spend your tax refund
So what are the best ways for you to spend your tax refund? Should you go ahead and buy a big ticket item? Or should you save it for the rainy day? Here are some tips that you can consider when deciding what to do with this financial windfall.
Pay off debts.
Before you begin, it is important for you to study your current debt situation. That way, you can choose which credit account requires your concentration. Here are some of the specific things you can do for your debts.
- Pay off your credit card balance. Since this is a debt with the highest interest rate, it is only smart that you begin with this. You do not want to continue wasting money by paying the high-interest that is being accrued on the balance you carry over each month. Pay off the balance of the card with the highest rate and try to use it only for purchases you can completely pay at the end of the month.
- Prepay your mortgage loans. If your loan does not have a prepayment penalty, you should consider using this lump sum to lower your mortgage balance. The best thing about this is the bigger you can pay, the more equity you will own on your home.
- Make a huge student loan payment. Since most student loans do not have prepayment penalties, you can also use your tax refund to pay a huge amount towards this debt. The faster you can pay it off, the earlier you can work on improving your finances.
- Try to settle your debts. Another thing that you can do is to use this lump sum to settle your debts. If you have been going through a tough financial situation lately, you can use your circumstances to convince the creditor or lender to reduce your debt. If you agree to give them the refund money as a debt payment, they should forgive the rest of the debt that it cannot cover. That way, you can completely be debt free.
The other option for you to use your tax refund is to save it. There are three things that we suggest you save up for.
- Emergency fund. This will not only give you the money to spend on unexpected expenses. This fund can also keep you from debt. Not only that, you will feel less stress and more secure about your financial position.
- Retirement fund. If you want to retire early, you can make a commitment to use your tax refund and put it in your retirement fund. Just let the compound interest work in your favor and you should be able to build your wealth for your golden years.
- College fund. We all know how young adults are struggling with their respective student loans. This does not seem like a problem that will go away soon. That being said, it might be a good idea to save some money for the education of your own kids.
Invest to grow your wealth.
Investing your money is the most proactive way for you to grow your wealth. This is you choosing to use your tax refund and make it work for you by earning you money. Here are the options that you have when it comes to investing.
- Invest in stocks, bonds, mutual funds. This involves putting your money on companies, government projects, and similar investments so it can grow together with their value. As the company or projects start to grow and increase in value, your money will grow too. That is how you profit from this.
- Start a small business. You can also opt to invest your money in your own company. There are businesses that you can start with only $2,700 as capital – which is the tax refund average in 2014. Most of them can be done online. Or you can use a skill like repairing computers of bookkeeping. Invest in software, training or other equipment that will help you get your business started.
- Set up a passive income. There are various options for a passive income. You can create an app that you can sell. You can also buy an equipment that you can rent out. You also have the option to buy a vending machine. The great thing about this option is you do not have to work too hard to get money coming in each month.
Spend the cash.
Finally, you can opt to spend your tax refund. Unless you have an emergency fund and you do not have debts, we suggest that you hold this option. But if you want to enjoy this money, here are the smart ways you can spend your tax refund.
- Learn a skill or improve your knowledge. This is actually like an investment. If you have to spend your refund money, it is best to spend it to improve yourself. That will increase the chances of you getting a salary increase or a promotion.
- Improve the value of your home. Your tax refund can also be used to finance home repairs. Or your can make renovations that will help improve your home. Increasing the value of your house will allow you to increase your profit once you decide to sell it.
- Spend it with family. What better way to use this extra money than by making your family happy? Do something that the family would enjoy together. Go to the park, eat out, or go on a budget-friendly vacation.
- Do something you love. If you do not have a family yet, you can use this money on something you love. For instance, you can treat yourself to get a massage. Investing to relax your body is a great way to reward yourself for a job well done.
- Donate to charity. Sharing your blessings will not only make others happy, it will also uplift your spirit. Write a check for a local charity. Or you can buy food, clothing and other basic necessities and drive around town to give it to the homeless people you will meet. This is one of the most priceless expenses that you will make.
Take note that you do not have to stick to only one. It is also smart to divide your tax refund so you can use it on two or more of these financial activities.
If you haven’t filed your tax returns, you need to consider completing this task so you can get your tax refund. Here is a video that will give you important info about filing your tax returns this 2016.