It feels like just yesterday it was the holidays.
Thanksgiving, Christmas, New Year’s and then before you know it… Tax Season and April 15th roll around! (Note: Tax season has been extended to May 2021)
Whether tax season is a good time for you or maybe a less desirable time, taxes are not going away any time soon (You can think ancient Mesopotamia for starting taxes!)
Hopefully, you will be getting a tax refund this season.
Tax season is a great time to jump-start your financial goals again if you fell off the wagon for the New Year, or if you're just looking to use your tax refund wisely and not blow it.
Whether you choose to pay off debt, remodel your kitchen, or maybe save – spending your tax refunds wisely is vital.
“Income tax refunds are the most imaginative fiction being written today.” ― Herman Wouk
Why You Should Use Your Tax Refund Wisely
Maybe you have been trying to get ahead for some time now but just can’t get the ball rolling when it comes to your finances.
The big “Mo,” or financial momentum can really get cooking if you have some extra cash laying around.
A tax refund can be the cash windfall and perfect time for you to finally take charge of your financial position. Whether you're in a great financial position or not, you can really create some options for yourself by using your tax refund smart.
- But how should you use your tax refund?
- Should you spend it?
- Should you save it?
- How much is your tax refund going to be?
So before we talk about smart ways to appropriately spend your tax refund, lets first chat about what you probably shouldn’t do.
What is your tax refund going to be? Use this tax refund calculator to find out.
What not to do with a tax refund:
If you are anything like me, the injection of a large sum of money into your checking can make you feel like you have a little more then you really do.
I know in the past I have let my guard down when it comes to spending because of my tax refund.
If learning from past mistakes teaches us anything, I would recommend avoiding the following with your tax refund.
1. Don't Spend more money eating out
It is really easy to run through $200 in a week's time just eating out more than normal.
There is nothing wrong with getting a nice meal, but don’t create a habit that you worked hard to break! Justifying eating out more than normal because your tax refund hit the books isn't a great idea.
See also: Saving Money Meal Prepping
2. Never buy a new car.
Aside from the fact that you really should never buy a brand new car because of depreciation, don’t take your tax refund and invest in depreciating assets… AKA new cars.
Dealerships know that spring time combined with a tax refund is a great time to sell cars. The cash in hand can make it really easy to pull the trigger on that new dream car, but don't be tempted.
3. Avoid purchasing brand new stuff.
Avoid frivolous spending no matter how tempting it may be. Pretend nothing changed when you get your annual tax refund.
Remember, you just paid your taxes for the last year, so it is a refund of the money you technically earned. The last thing you want to do is go buy a bunch of silly things that really have no true value to you.
See Also: You Don't Need Expensive Stuff
4. Don't blow it at the casino.
Really, should I say more?
You're not Matt Damon from the 1998 film Rounders. Most likely, your poker skills or closer to his buddy Worm's.
Don’t try to double up. Learn about compounding interest and investing if you really want to score big! Consider using apps like Acorns or M1 to invest your tax refund instead of just putting it all on red!
5. Do not lend money to others.
Sort of an unspoken rule, lending money to others typically never works out in anyone's favor. As a general rule of thumb, if you lend money, do not be upset if you never see it again.
While it is your tax refund, don’t be tempted to lend it out especially if your own personal financial situation requires some attention. What might seem like a kind gesture ultimately isn't a smart move when it comes to using your tax refund wisely.
11 Smart Ways to Use this Year’s Tax Refund
Here is a list of 11 ways to use your tax refund wisely. As a general rule of thumb, start with your biggest need first.
1. Create an Emergency Fund.
If you do not have an emergency fund yet, there is no better time than tax refund season to create one.
Dave Ramsey recommends starting with at least $1,000. Ideally, you want to work towards having 3-6 months worth of emergency funds saved up. Use your tax refund to get things rolling!
See Also: How to Create an Emergency Fund
2. Pay off that Credit Card with your tax refund.
This is super obvious, but use your tax refund and pay off your looming credit card balance that has been killing you! I still remember when I got my first credit card in exchange for a free sub. A $10 cheeseburger can cost you $1000’s of interest on a credit card.
Get rid of your credit card debt with your tax refund. Focus on higher interest balances first that free up the most cash!
3. Pay Your Car Off
If you don’t have credit card debt, the next line item should be your auto loan.
While most will say hit the student loans first, auto loans can account for 10-20% of your monthly income! So using your tax refund to free up the cash is actually ingenious!
Whether you go with paying off your student loans or your car first, something to keep in mind for the future is making sure you by affordable vehicles.
You can use your tax refund to save for your next car purchase!
4. Pay Down Student Loans
If you are someone who has student loans like 72% of all recent college graduates, consider using your tax refund to pay down student loans.
A cash windfall is a great way to create momentum when paying off student loans and helps borrowers significantly get ahead on paying down their principal balance.
The most common form of a cash windfall is annual tax refunds.
Whether you're almost done with your student loan repayments or nowhere close, consider paying off the remaining balance and being done with student loan payments.
Take the extra cash flow each month to grow your savings, save for a home, or invest! Freedom from student loans … think of how awesome that sounds!
5. Pad Your Savings Account
You have an emergency fund, no credit card debt and your car is paid off. Well, consider padding your savings account.
Market published an article stating Americans have more credit card debt then they do savings. While this is alarming, it doesn’t have to be you. With the Coronavirus pandemic, experts estimated 40% of American's didn't have $400 cash in savings.
When you get your tax refund – pretend you never got it – just stick it right in emergency savings. Some will say invest, however, depending on your age and personal goals, saving is not a bad option, especially if you don't have 3-6 months in an emergency fund!
6. Do that Small Home Remodel.
You really want to spend money… well sometimes the best investment is your home. Typically, on average, a small home remodel can be done for less then $1,000 depending on the size and scope of the project.
Luke Mitchell, the owner of TD Home Pro and Gutter Gurus specializes in exterior remodeling and contracting. He says his busiest time is during the tax refund season when people want to make improvements to their homes.
“Things like roofs, windows, and doors can see an 85% ROI during resales.”
Depending on what your time frame is for possibly selling, small remodels or fixes can be very beneficial in the long run.
7. Take a Trip
The cars are paid off.. Check.
The credit cards read zero… Check.
You don’t need to remodel… Check.
And you want to do something fun… Discount Double Check!
While going crazy and booking the dream trip to Rome isn’t recommended, consider a long weekend get away.
Take Thursday and Friday off and leave your cell phone at home and get away for a few days. Depending on where you live, see what is within driving distance to keep the costs down and plan out your spending.
8. Make a BIG Mortgage Payment
Much like my recent post emphasizing paying off your mortgage in 7-10 years vs 30, consider using your tax refund to pay the principal on your loan.
For starters, every $1 that goes to your mortgage principal means more of your monthly will go towards the principal instead of interest.
Mortgages are front-loaded with interest, therefore the more you attack the principal the more your hard-earned money doesn’t go to interest.
See Also: Read about mortgage accelerations here.
9. Donate to a Cause
Consider donating some of your tax refund.
This doesn’t have to be some astronomical amount of money, but if you got the means why not?
See if you can help out a local sports organization, an alumni scholarship at your high school or maybe something you are particularly passionate about.
Personally, I like giving money to campaigns that don’t promote just awareness, but that bring solutions to the table!
10. Start a Business
Wait.. did he say start a business? I did. You should can use your tax refund to become an entrepreneur!
Filing for a LLC with your state commission takes about 20 minutes and $100. Check local business tax services to start the small business you have always dreamed about (Tip: Just like states without income taxes, look for states that are small business-friendly if possible).
One of the pros behind ownership – working to that 4-hour workweek goal – is the tax laws. I am not a CPA but I know there are some write-offs small business owners can take advantage of, like writing off a percentage of your living costs for your in-home office.
11. Get to investing.
Using your tax refund to invest (especially if you're debt free) might be the best thing you can do longterm for your finances. And you don't have to be an expert to start.
Recently, I wrote an article about simply investing just $10 a day can create a half a million portfolio in under 30 years. Using that advice, making an initial investment with your tax refund is almost as simple as pie.
The goal is to get to the point where you're reading in-depth articles like this one on Tax Loss Harvesting because of your investments.
12. Do whatever you feel like
Honestly, you can take my advice or leave it, but at the end of the day, do what you want with your tax refund – it is yours!
You most likely worked really hard the last 365 days, so it is really up to you to decide what you want to do with your tax refund this year.
Don’t worry about impressing others, keeping up with the Joneses, or trying to buy the latest gadget. Do whatever makes you happy!
For me, every year something happens that eats up just about all of my tax refund. Last year it was the engine failure in my car, this year it was the $6,000 interest payment to student loans before they capitalized.
Several years ago I was able to pay my car off… only to trade it in for a really expensive truck. When I got my first tax refund, I was able to save a majority of it that eventually helped with the down payment of my home.
But all of that is up to you! I hope this helped get your wheels turning thinking about what you can do with your tax refund this year.
Q: What are you planning on doing with your tax refund this year?
Josh writes about ways to make money, pay off debt, and improve yourself. After paying off $300,000 in student loans with his wife in less than five years, Josh started Money Life Wax and has been featured on Forbes, Business Insider, Huffington Post, and more! In addition to being a life-long entrepreneur, Josh and his wife enjoy spending time with their chocolate lab named Morgan, working out, being outside, traveling, and helping others with their finances! I got serious with money when I used Personal Capital to track my finances.