Posted by Adrienne on April 9, 2013
You may have often heard that it makes no sense to get a tax refund. On many personal finance sites people are berated as stupid (or worse) for getting money back from the IRS – after all it is a tax free loan to the government. Why would anyone want to do that? Are there any good reasons to get a tax refund? I think for some people there may be.
Good Reasons for a Tax Refund
- Forced Savings. For some people the tax refund is a form of forced savings. They find when they try to save a certain amount each month that there are always good reasons for the money to go somewhere besides their savings account. If the IRS is taking it out of your paycheck it’s not available to you in the way that your savings account is. Obviously learning how to save is an important skill but for people trying to make those changes in their lives the tax refund offers a lump sum to get started.
- Starting Self-Employment. When you work for yourself you need to pay estimated quarterly taxes on your income in addition to self employment taxes. That first year can be tricky to calculate (especially if you’re unsure about how steady your self-employment income will be). Added to that difficulty is the fact that there are penalties you owe if you pay too little. In those cases it may be better to give a small interest free loan than to end up paying penalties for under payment.
- How Much is the Refund Costing You? In today’s low interest rate environment the tax refund may not be costing you as much as you think. Say that you get a $3000 refund on your taxes. At 1% interest that is $30 but wait – you wouldn’t have had a whole year of interest on that money. Assuming that you paid an extra $3000 evenly throughout the year then the average that money would have been invested is 6 months. That brings the cost of the interest free loan down to $15.
- How Do You Treat the Money. Do you treat the refund money as you would ordinary income or do you treat it as an unexpected bonus? The benefits of saving a lump sum are erased if you consider your tax refund as “free money”. If you were using it as your forced vacation savings that is one thing but if you were hoping to pay off some debt or start an emergency fund you should treat this money exactly as if it had come in small amounts from your paychecks throughout the year. It is not a bonus – it is your money.
Should You Get a Tax Refund?
I won’t argue that it makes sense to get a refund but the “cost” of doing so right now is relatively low as long as your refund isn’t subject to the refund delay. If getting a refund helps you save for a goal or lets you make a big payment to a debt (such as a credit card) that you wouldn’t ordinarily make then I think makes sense to consider it.
Are you getting a tax refund this year? Do you think getting a tax refund is a good thing or bad thing?
More on Tax Refunds
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