If you’re like the majority of people, you’re looking forward to this time of year: longer days, warmer weather, and a nice big tax refund.
Of course, filing taxes might not be your favorite pastime and owing taxes is a big pain, but most of us certainly reap the benefits: According to the IRS, over 70% of Americans can look forward to a tax refund averaging $2,995 this year.
Many people use their refunds to purchase an extravagance they normally couldn’t afford, like a pair of designer shoes or a shiny new tablet, but it’s wiser to think long term. If your tax refund is the only reason you can afford a vacation, you should really think twice about that expense. Whether you save it or spend it, put this annual bonus to good use.
Read on for some practical ideas—and a few bonus options—on how to use your tax refund.
Ways to Save Your Tax Refund
Boost your emergency fund. Be prepared for life’s unexpected turns such as a layoff, an emergency home repair, or a sick pet. You’ll want to keep a clear head without having to worry about finances during a time of crisis.
By investing in an emergency savings account, you won’t need to take high-interest loans on your credit card or a retirement plan, such as a 401(k). It can vary by income level, but it’s generally recommended that you have three to six months’ salary in your “rainy day” fund.
Another tip: keep your emergency fund in a high-interest savings account so that you earn money off your savings.
Save for your retirement. If you have no outstanding high-interest debts (like money owing on your credit card), use your tax return to help fund your golden years. Even if you have a 401(k) or other employer-sponsored retirement plan, it’s still a good idea to pay into an individual retirement account (IRA) to top up your savings.
If you’re over the age of 50, know that you’re eligible for annual catch-up contributions. These allow you to contribute up to $6,000 more to your retirement savings plan and improve your future financial position. While it may not be the most exciting option, you sure won’t regret it down the road.
Invest in your children’s education. A post-secondary education doesn’t come cheap: tuition at a public two-year college is upwards of $3,000 per year—not including room and board. If you’re looking at private four-year colleges, expect tuition to start at $30,000 per year. Therefore, it’s never too early to start contributing to your child’s college tuition.
Save for a big purchase. Is your car just about ready for the junkyard? Are you a young couple saving for a wedding? Do you hope to put a down payment on your first home this year? If a large expense is looming on the horizon, start a savings account with your tax refund and make a plan to top it up throughout the year.
How to Spend Your Tax Refund
Pay off debts. This is what most financial advisors recommend doing first. Your credit card is likely the highest-interest debt you have, so make paying it off your top priority.
If making the minimum payment on your cards each month seems like a lasting solution, do a quick calculation of the interest you’ll pay over time. You’ll likely be motivated to bring that debt down to zero in one fell swoop.
If your credit card is paid off, you can further your debt reduction by paying off a chunk of your student loan, car loan, or mortgage. Just ensure your mortgage agreement doesn’t have a prepayment penalty before you start throwing money at it.
Reinvest in your home. While your refund probably won’t bankroll a complete kitchen renovation, it could help you to afford some simple improvements that may increase the value of your home. Some ideas include replacing your water heater or furnace, repairing your leaky roof, or swapping your old appliances with energy-efficient devices.
You can also consider cosmetic upgrades such as installing new lighting, replacing old faucets, and painting (or even replacing) your front door.
Start an investment portfolio. If you don’t immediately need the extra cash, why not make your money work for you? Use this opportunity to make a small investment in a stock, bond, or mutual fund.
The prospect of investing can be daunting, so start by doing a little research on the types of investments available to you.
Next, determine your goals and risk tolerance: do you want to take an aggressive approach? Would you like active or passive management? Would you prefer growth or value investing?
Lastly, research financial advisors and brokers, as well as online trading platforms. Once you’ve chosen your asset manager, you’re ready to choose your investments and start making money.
Getting Creative With Your Tax Refund
You may choose to disregard the above suggestions and spend your tax refund on something a little less conventional. If you’re looking for out-of-the-box ideas for spending your tax refund, look no further.
Invest in your health. Encourage eating at home with a new kitchen gadget like a slow cooker or a deep freeze, or plant a garden in your backyard so your family can enjoy fresh produce.
You can also make exercise a priority by purchasing a monthly gym membership, signing up for that salsa dancing class, or investing in some exercise equipment for your home.
Boost your earning potential. Investing in some additional training, such as an online course or seminar can help to earn you more money in the future.
Attend a training session to increase your skills, take a class, or go full out and sign up for a diploma or certificate at a local postsecondary institution. If distance is an issue, look into open education options online.
Donate your money. Find a charitable cause that hits close to home and donate your tax refund. Look to local food banks, shelters, and arts and culture charities, or think globally and consider health, environmental, or international relief charities.
Break Even With Your Taxes
Your tax refund may seem like “free” money, but in reality getting a return means the government took too much in taxes off your paycheck all year, held it, and is now returning it without paying you interest. In short, that money was yours all along.
If you’re getting a large tax refund every year, consider adjusting your W-4 form, which tells your employer how much money to withhold from each paycheck for federal taxes. A tax professional or accountant can also evaluate your taxes and help you sort out your deductions.
At the end of the day, don’t treat your tax return differently from a paycheck. If you need the extra money, use it wisely; if your finances are in good shape, you can splurge a little.
How will you be spending your tax refund this year?