Tax refunds are one of the largest inflows of cash that many families receive at once. This means that knowing the best things to do with your tax refund are super important. If you're here, you are probably wonder what to do with tax refund yourself.
This influx of cash is always nice to have, especially when everything else you get seems to be a bill or junk mail. We know it’s tempting to use your tax refund to treat yourself to a new TV, but there are better things you could be using your tax refund on.
If there's even a small part of you that wants to make the most of your hard-earned money, you've found the right place!
1. Start building Or Top Off Your Emergency Fund
When it comes to personal finance or managing your money, the single most important thing you can do is have an emergency fund. If you’ve read our popular post on emergency funds you know that an emergency fund is money that is set aside in case of an unforeseen circumstance like a medical emergency, loss of a job, or if the transmission on your car goes out.
You may be thinking that your tax refund isn’t enough to cover 3 months of living expenses anyway, so why not just buy a new video game. However, it’s important to remember that you have to start somewhere and the more you save now, the less you’ll have to save later.
By having an emergency fund, your tax refund could go from being a nice bonus to a life saver!
If you are one flat tire away from losing your job, then having spare cash could mean all the difference.
If you aren't sure where you should keep your emergency fund, consider opening a high-interest savings account. It's a savings account with an interest rate roughly 100x higher than a typical bank account, which is pretty awesome. If you're going to keep your money in a bank, you might as well earn some money.
2. Open Or Fund A Roth IRA
If you aren't sure what an IRA is, it is a retirement account that you fund yourself. The beautiful thing about these accounts is that you'll pay less taxes on the money that you invest! This means that over the years you can save thousands of extra dollars for your retirement if you compare it to a normal investment account.
Why should you save for retirement if there’s social security? The problem is that the average social security check that retirees receive is simply not enough to live off of comfortably. Today’s reality is that you need to supplement your retirement savings yourself unless you want to work for the rest of your life. We sure don’t!
Many people don’t realize that they can use their tax refund to fund an IRA, but you can because a tax refund is considered earned income! If you contribute before Tax Day you can even make a contribution for the previous calendar year! Once tax day passes you can only make a contribution for the current tax year, so this is HUGE!
Our post on IRA’s is a great place to start if you are ready to go down this route! Deciding what to do with tax refund can be a no brainer when you consider a few of these will help you for years to come!
There are two types of IRAs, Traditional and Roth. The difference is simply the timing of tax payments. For young people, Roth is the way to go because you have more flexibility (you can withdraw your contributions penalty free for any reason).
3. Use Your Tax Refund To Pay Off Credit Card Debt Or Student Loans
It’s no surprise that credit card debt is one of the biggest obstacles to healthy personal finance that’s out there. With interest rates as high as 25%, carrying a balance can cripple your bank account and eat your entire paycheck for years.
For this reason, taking a large bite out of your credit card debt by using your tax return is one of the best things you can do for yourself.
There's also the added benefit that your credit score will improve if you pay down your balance since you will lower your utilization, the 2nd largest factor in determining your credits core.
If you’ve always been able to pay your credit card off in full and don’t have credit card debt, there’s still a good chance you have student loans. The interest on these loans adds up quickly because the loan balances can get so large. Since these loans often take several years to pay down, using a tax refund to pay them down faster can do miracles for your personal finance confidence.
If you've never felt what it feels like to be debt free, you are in for the thrill of your life.
4. Fund a 529 Account For Your Kids' Future Educational Expenses
Saving for your kids' college can seem less important. After all, they won’t be going to college for a few years and there are more pressing needs at home. Those fees for the sports teams certainly aren’t going to pay for themselves! But a 529 account should definitely be considered carefully when deciding what to do with tax refund!
The fact that your kids won’t be going to college for a few years is the exact reason why starting early is important. The amount of time your money is invested will help you quickly grow the investment.
These plans also have amazing tax advantages so even if you can only put a couple hundred bucks a year in them, you could have many times what you put in by the time you’re ready to use it!
If you paid your own way through college and expect your child to do the same, you'll just want to take into account that times are very different now. Over the past 30 years the cost of attending college has increased 8x faster than wages have. That means that college students are graduating with more debt than ever and lower starting salaries.
Any penny you can help them with would be a tremendous advantage as they transition into adulthood and start to pay off their student loans.
5. Start To Save For An Amazing Vacation
If you already have an emergency fund and have been diligently saving for retirement, you may be feeling tired and ready for a break. In fact, research has shown that the only way to actually buy sustained happiness is by spending money on experiences like trips and excursions.
This is one reason why we think it's better to be wealthy instead of rich! Sitting on a beautiful tropical island sounds nice right about now!
Research has shown that money can't buy happiness, at least not always, but you'll never meet anyone who regrets taking a little bit of time off.
If traveling or taking time off isn’t your cup of tea, research has shown that you can improve your happiness by getting rid of some of the things that make you unhappy. If thinking about mowing the lawn ruins your entire week, then use your tax refund to hire someone to do it for you in a few weeks.
The bottom line is that you need to optimize for sustained long term happiness!
For many of us, the ultimate goal is to have financial freedom. This means that our goal is to not worry about money all of the time.
We all want to work because we WANT to, not because we HAVE to. All of these things have the same outcome, which is to maximize happiness.
So if you still have your tax refund or are waiting for it to arrive, be thoughtful with how you spend it. Every penny counts and there's no better time to get the ball rolling than at the beginning of the year! If you stick to our list, there’s a good chance it’s the best thing you can do with your tax refund! Deciding what to do with tax refund isn't easy, but just remember that some choices are better than others!
Let us know what you plan to do with yours!
Finally, if you don't know how tax brackets work, we found an amazing article that explains them!