Tax season is here, and if you’re expecting a refund—or have already received one—you’re likely wondering what to do with that extra cash. According to the IRS, the average refund in 2020 was $2,549, and many people received substantial refunds, totaling over $320 billion. With that money in hand, should you spend it, save it, or invest it wisely? Let’s explore some smarter ways to use your tax refund.
Smart Ways to Spend Your Tax Refund
While it’s tempting to splurge on a vacation, the latest tech gadgets, or a designer wardrobe, it’s important to make thoughtful choices when using your tax refund. Here are a few smart options that can benefit you in the long run:
Build an Emergency Fund
Having an emergency fund is a key component of financial stability. Ideally, you should have three to six months’ worth of living expenses saved up to cover unexpected events like job loss, medical emergencies, or urgent home repairs. If you’ve had to dip into your emergency savings recently, now is a great time to replenish it with your tax refund. Not only will this provide peace of mind, but you may also earn interest on your savings.
Pay Down Credit Card Debt
Credit card debt can be one of the most expensive forms of borrowing due to high interest rates. If you have outstanding balances on your cards, consider using your tax refund to reduce those debts. Paying off credit cards not only reduces your monthly interest payments, but it can also improve your credit score over time.
Invest in Your Retirement
One of the best long-term uses of your tax refund is contributing to your retirement fund. You can boost your 401(k) contributions or open a Roth IRA. The money you contribute to these accounts will either grow tax-deferred or be withdrawn tax-free in the case of the Roth IRA. Investing in retirement now will set you up for a more secure future.
Save for College
If you have children and are planning for their higher education, a 529 savings plan is a tax-advantaged way to save. Your tax refund can help you fund this account, and the money grows tax-free when used for qualifying educational expenses. Plus, some states offer income tax deductions for contributions, providing even more benefits.
Home Improvements
Although your refund may not cover a major renovation, it’s an excellent opportunity to invest in smaller home improvements that add value and increase comfort. Consider using your refund for projects such as:
- Painting a room or refreshing the interior decor
- Replacing old fixtures or faucets
- Installing energy-efficient appliances or a programmable thermostat
- Sprucing up your landscaping
These relatively small changes can improve the appearance of your home and increase its value over time.
Avoid Overpaying Taxes
While receiving a tax refund is exciting, it actually means you’ve overpaid the government throughout the year. Instead of waiting for a large refund, consider adjusting your withholding so you can keep more of your paycheck throughout the year. By contacting your HR department, you can update your tax forms to better match your actual tax liability. This way, you’ll have more money available for savings or investments, rather than waiting for a refund that provides no interest.
While it’s tempting to use your tax refund on non-essential items, remember that it’s always a good idea to prioritize your financial goals first. So, go ahead and treat yourself to something enjoyable, like a nice dinner or a new TV. Just be cautious about splurging on bigger-ticket items, like a luxury vacation or an expensive car, that might not fit into your long-term plans.
