This post is from our regular contributor, Erin.
It’s that time of the year when many of us are (possibly) receiving hefty deposits into our checking accounts, courtesy of the IRS.
I’m not going to talk about why you might want to adjust your withholding if you’re getting back the average amount of around $3,000.
Some people prefer getting money in one lump sum payment, others prefer to have the money in their paycheck every week.
Regardless of your preference, these 4 tips on how to spend your tax refund responsibly will work well for any decent-sized windfall you may receive. Let’s take a look!
Have You Prioritized Your Financial Goals?
Figuring out how you want to spend your tax refund will be easier if you already have a list of financial goals you’re working on.
Whenever you get extra money, it helps to have it already allocated (in your mind). This way, you’re not tempted to spend it on something else.
For example, you all know from last week that I’ve prioritized my student loans. That means whenever I get unexpected money, besides doing a little dance, I put it toward my student loans right away. I don’t even have to think about it.
It’s time to get clear on your financial goals if you haven’t yet. What are you hoping to accomplish this year? Do you want to save for a down payment on a home? Do you want to save for vacation? Are you trying to max out your retirement accounts? Pay off debt?
Whatever it is, make a list of these financial goals, and order them by priority.
If you need help in creating that list of goals, here are 4 things you might want to consider putting your tax refund toward.
Put Your Tax Refund Toward Savings
I strongly believe that everyone should have some sort of emergency fund, regardless of what’s in it. $1,000 is the most popular figure, but it greatly depends on your individual situation.
If you don’t have anything saved up, start here. Even if your refund is less than $1,000. Every little bit helps.
After that, think about any upcoming expenses you have. Especially irregular expenses, as those tend to sneak up on us when we’re not prepared.
If your car is due for inspection or registration, if any insurance premiums are coming up, or if you’re going to pay property taxes soon, consider setting the money aside now. When that large bill pops up later, you’ll have it covered.
Alternatively, if this year is a busy one in terms of anniversaries, baby showers, weddings, or other pricey events, you can set aside the money for gifts.
There are an endless amount of things you could save for. Maybe you want to get your roof fixed and having this money will help. Maybe you’re saving up for a car, a wedding, or a trip. Whatever your savings goals are, get them funded!
Pay Off Your Debt With Your Tax Refund
The average refund amount of $3,000 is a decent chunk of money! That could easily wipe out one of my student loans right now.
If you’ve been battling with debt fatigue and you’ve been paying the minimum plus whatever extra you can muster, throw your refund at it. You’ll get excited to see the amount drop by so much! It could be the motivation you need to get back on the debt paying horse. (Is there such a horse? There should be. ;))
Trust me, I’ve been going through this myself the past couple of months. The intensity to pay off my loans isn’t there like it used to be.
I’ve been on autopilot, and while that’s better than the disastrous alternatives, it’s also a little boring.
Put some spark back into your debt payoff journey and get ready to kick it to the curb!
Fund Your Retirement or Child’s Education Expenses
I know, technically these are both still saving, but they’re saving for the long-term. The really long-term. So they get their own separate section.
If you’re anything like the typical young adult, saving for retirement might not even be on your radar. It should be!
If you have an IRA, $3,000 will go a long way toward maxing it out for the year. You can also choose other investment vehicles – don’t limit yourself to just the typical retirement accounts.
Additionally, if you have a college savings plan for your child, you can fund that as well. Or split it between the two!
Leave a Little Room for Fun
Receiving such a big sum of money all at once is fun. So fun, in fact, you might be tempted to spend all of it on frivolous activities.
While I don’t think you should splurge on something crazy (unless you planned for it and have everything else under control), I do think we should all give ourselves a little breathing room once in a while.
Setting aside a portion (say, 10%) of your refund for fun is a good idea. There’s nothing wrong with treating yourself!
Think about areas you’ve cut back on lately, or any sacrifices you’ve had to make in order to focus on your financial goals.
Has it been months since you were last inside a restaurant or Starbucks? Buy yourself a gift card to your favorite place with your leftover money and enjoy going out a few times.
Ladies, when is the last time you treated yourself to a day at the spa? Or just a beauty salon? If your tresses could use a little care, or if your nails could use some color, hop on over for a visit.
Men (or women!), have you stopped going to see your favorite sports teams play live? If the tickets are within the amount you have to spend, plan an outing with friends and go to the stadium together.
Couples – when’s the last time you had a romantic getaway together? Or heck, maybe you just really love to travel, and even though you’re saving up for a big trip in the future, you’d like to get away for the weekend. Plan a one-night stay in a modest hotel and have a nice dinner together.
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You can spend your tax refund responsibly while still managing to have a little fun. Complete deprivation is never good for anyone. Unless using your entire tax refund will allow you to complete your goal – then you might want to consider going all-in. Just make sure to celebrate afterward!
How are you planning on spending your tax refund? How have you spent it in the past? Anything you regret?
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My tax refund is sitting in my primary savings account. Since I owe quarterly taxes in a few weeks, it will basically go right back, plus some. Fun times.
I’m a fan of having more money in every paycheck, but we’ve found that we end up with some kind of tax return regardless. We’ve been putting it toward paying of our mortgage and funding children’s education. Another idea is to give some of it away to a charity. We want to plan and save for the future, and enjoy little splurges along the way, but there are people in real need and we think it’s worth it to help out a bit.
Holly at ClubThrifty Haha sounds thrilling, Holly ;) I will be doing the same thing but I paid in WAY too much last year so it won’t eat all of my refund.
Pretend to Be Poor Two years ago we paid in $7k because we did not have enough taken out of our paychecks nor did I pay in enough in quarterly taxes. That made us paranoid so this year we went the other direction paying in as much as we could through quarterly as well as having more taken out of BOTH of our paychecks. We got a big return and honestly I’d rather have it that way than to be closer to zero. We’ll be able to knock out a home improvement project and pay off a student loan with the return.
DC @ Young Adult Money Pretend to Be Poor Yes, I would be concerned about underpaying in that case, too. The IRS calculator is helpful, but we don’t have to deal with quarterly taxes, and only have 1 income. I think we overpay because we are erring on that side instead of owing a lot.
I think we’ve done most, if not all of these, in the past. We’re owing again this year – about $2,000 to the Feds but getting back about $100 from the State. It’s not all bad though as we got to put about an extra $3,000 into our SEPs as well. I’m just thankful we didn’t owe more for the year. :)
Pretend to Be Poor DC @ Young Adult Money That simplifies it a bit. The quarterly taxes threw me off that year as well as my wife having three part-time jobs and them not withholding enough. I think we are in good shape going forward, though, and likely will continue to pay in a lot just to make sure we never have to pay in a huge sum again.
I confess that we have not worked on our taxes yet, but it’s on the to-dos for this week. The last few years we have always owed something or gotten very little back, so we wait until the last minute to put everything together. I have plenty of clients getting refunds, though, and we always try to be strategic about it. Last year I had one client who was close to getting below 30% utilization on her credit card, so we focused the funds on the credit card because she needed to improve her credit score to potentially get financing for a car down the road. So we used a portion for that and her credit score jumped 30 points by the following month.
I remember the days when we’d make a list of what we’d do with our tax refund money, and it was almost all stupid stuff to waste it on, thrown in with a bit of responsibility. Now it’s totally the other way around. :-)
Holly at ClubThrifty I hear you on that! It’s the one thing I don’t look forward to as a freelancer. ;)
Pretend to Be Poor Getting your withholding right can be tricky, and I would also rather err on the side of caution. Last year was my first year freelancing so I overestimated what I needed to pay every quarter.
That aside, donating to charity is a great idea! Thanks for suggesting that.
FrugalRules That’s awesome you were able to put more toward retirement! As a first-time freelancer, I’ve basically been paranoid of touching any extra funds in case I end up owing. You can get hit pretty hard!
blonde_finance Wow, a 30 point jump is great! I’m certainly on board with using your tax refund strategically. Might as well use it where it will help the most, because it’s not typically every day you get such a large lump sum in your bank account!
Laurie TheFrugalFarmer That’s all that matters, right? I definitely left some room for splurges back when I first started working, when the money could have gone toward student loans.
Our tax refunds always go to the (mostly) boring choice – savings/investments. This year, we received our work bonuses quite close to tax return time, so we have even more investment choices to make!
I actually way overpaid last year and am getting a pretty big refund, but I’m applying it all toward my next estimates. Not very exciting, but I won’t have to pay taxes until September so that allows me to get my 401k funded.
Good tips, Erin. It’s so important to prioritize as you can really stretch your tax refund and use it on multiple fronts. And I do agree, unless you’re in deep financial trouble, it is okay to set aside a portion for fun too. Just don’t make the mistake of using your tax refund to create more debt, which unfortunately, I see fairly frequently too. :)
moneypropeller There is totally nothing wrong with going the boring/responsible route! Getting bonuses on top of that makes it more exciting. =)
Eyesonthedollar That sounds like a smart plan! Having to worry about estimated taxes is not fun at all, and if it allows you to prioritize your 401k, all the better.
ShannonRyan Yes, it’s very important not to go overboard and think, “Oh, I can put this $1,000 refund toward a $2,000 TV and charge the rest!” I’m all for having fun, but you can still do that in a smart way!
This will probably be my last year getting a refund. It was only a couple hundred bucks. I put all of it toward debt.
I used to hate getting a refund: the whole giving the government an interest free loan thing, and all that.
Now, I think it’s a powerful tool for saving. The opportunity costs are meager when compared to the likelihood that the money is likely to be spent when spreadout, and more likely to be saved if provided all at once. Jason Hull covered it a while back, and he has me convinced.
I try to target zero. I don’t mind getting a little back, but it’s basically a big game I play to see how close I can get. I just had to tell a client they owe $20K since they had nothing withheld. I would definitely prefer the alternative!
Jason @ The Butler Journal Nice plan of action!
DonebyForty I can’t say I mind getting a lump sum, and I’ve never seen it as the huge deal others make it out to be. It makes sense that people would be more responsible with handling a large sum of money versus the increase in each paycheck!
Mark@BareBudgetGuy Whoa! I think I’d pass out if I was ever told that. That’s an expensive lesson to learn from. It’s certainly better to get a little back rather than find out you owe so much.
In the past I’d use my tax refund for some big unnecessary purchase. I’d plan ahead thinking, “What can I buy….?” Now I try to come close to breaking even at tax time, but i still get a pretty nice return. Now I use it for my financial goals. This year my federal return paid off my car and my state return went towards my next goal of beefing up my emergency savings!
If I end up getting a refund this year, which may not happen I’ll be allocating based on a % i.e. 50% for investing, 30% for a holiday fund and the other 20% I’d say for education or training. This is something I’ll likely also put in place for pay increases! :)
Interesting to hear what most people are planning on using it for would be reducing debt, hopefully! :)
SimplySave That’s awesome! My fiance used his first refund to pay off his car, and it was such a huge relief for him to not have to deal with the monthly payments anymore. That beat anything we could have purchased with the money.
mycareercrusade I like the percentage approach! Totally agree that we should have a similar plan in place for raises, otherwise lifestyle inflation can start to creep up. =)