Posted by Jill on March 21, 2011
Now that the IRS has started accepting returns and distributing tax refunds, many of you are receiving large sums of money. If you’re not careful, you can easily sweep this money into your regular spending, earning several hundred to several thousand dollars worth of “extra” income and having nothing to show for it – it’s lifestyle inflation at its finest!
First, remember that it’s not really extra – you earned it over the course of the year and simply overpaid in taxes. To avoid the same issue next year, adjust your withholding using a W-4 form.
Secondly, do your best to separate the refund right away – if you’re not immediately sure what you want to do with it, park it in an ING or SmartyPig account until you decide. If you need some ideas, keep reading!
Ideas for Your Tax Refund
- Pay off debt: If you’re in alot of debt, the best thing you can do for your finances is try to wipe some out. Concentrate on either your highest interest or lowest balance debts, and eliminate as many individual payments as possible.
- Build up your emergency fund: If you haven’t saved up 3-6 months of living expenses, use your tax refund to get you closer to that goal.
- Give to charity: Many people wish they could give more to charitable causes but lack the cash flow to do so. You can set aside your refund in a special account you use to make small donations throughout the year, or you can use the entire amount to make a large donation to one or two of your favorite causes. Remember to get a receipt in case you itemize deductions next year!
- Make home improvements: Remember that over the long run, some home improvements can end up paying for themselves or earning you money when you sell – and some can even lead to future tax deductions! If you’ve been wanting to upgrade some part of your home but haven’t been able to afford it, consider earmarking all or part of your refund for this purpose. If you can’t do it yourself, make sure to use a reputable contractor and avoid any Angie’s List Scams!
- Fund your next vacation: If you have a vacation (or any big spending) planned for the next 6-12 months, put this money aside until then. You can rest easier knowing that you don’t have to fund your vacation out of your “normal” budget, and if you were saving for it along with other things you can reach other goals a little faster.
- Make an extra retirement contribution: If you suffered bad investment losses over the last few years, you might still be a little short of your retirement goals. Remember that you can contribute up to $5,500 to an IRA and $16,500 to a 401(k) or similar account. Adding your tax refund to this year’s planned contributions is a great way to help shore up your account balance – it’s like your own “catch-up!”
- Save it for next Christmas: Every year people come to November or December and wish they had saved up money for gifts – this is your chance to do so! Open a dedicated account that you don’t touch until you start your gift buying. If your refund is less than the amount you usually spend, plan to add to it to throughout the year.
How will you spend your tax refund?
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Personally I like number 2. Life is full of emergencies and the worst is not be prepared for them. Tucking a little bit of cash into one of these accounts is an important step in my opinion.
I paid off a little debt and invested in some silver that I will cash in when my vacation bills come in this fall.
Or spread it out! I put some of my taxes towards a summer trip, topped off my tax-free savings account and made a small donation to the Japan crisis through my ING account.
Before I could do anything unwise with it I put it into my savings account. I have a habit of spending everything in my checking but nothing in my savings.