What to Do With Your Tax Refund - Live Like a Mensch
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Live Like a Mensch

What to Do With Your Tax Refund


As I've mentioned previously, I'm a big believer in aiming for a modest (under $500) tax refund each year. I don't necessarily manage it every year--for instance, J and I got over $900 back for 2012--but I do what I can.

I believe in doing this for several reasons:

1. I don't like the idea of giving Uncle Sam a huge, interest-free loan every year.

2. With judicious money planning, I know that I can either earn a little on the money by saving or investing it throughout the year, or I can put it to other good use throughout the year.

3. Psychologically, we all tend to view tax refunds as "found money," even though it's our own income. That means we'll often spend it in ways we'd never spend a paycheck--on electronics, vacations, or other purchases that might not be entirely necessary.

However, I also recognize that not everyone is going to be like me when it comes to money. For me, having an opportunity to balance my checkbook and transfer money to various high-interest savings accounts is almost as much fun as a trip to Disneyland. (More so, since there's generally no line and no possibility of whiplash). For those non-money nerds out there, I can certainly comprehend why it would be tempting to increase withholding simply to make paying taxes easy and to ensure that underpayment will never be an issue. Also, having a big check from Uncle Sam every spring is a nice little bonus, and for those individuals who have an easier time dealing with big money rather than little money spread out over 52 paychecks, it can also be a better way to be responsible with your money.

So basically, even though I believe in aiming for a modest return, I certainly don't judge those who do the opposite.

However, I will say that I find it disheartening to see people blow their tax refund when they can't really afford to do so. Here's what I'd rather see people do with their big refunds, rather than book a cruise or buy a big-screen TV:

1. Fund your retirment account. Being able to put a big check into retirement gives you an incredible boost--which having a little bit deducted from each paycheck does not.

2. Beef up your emergency fund. They say you should have 3-6 months worth of income set aside for a reason.

3. Pay off debt. Again, the psychological impact of a big payment is worth the disappointment of not being able to blow your refund.

4. Pay for education. Either setting the money aside so that you can eventually go back to school without a loan or putting it in a 529 account for your little one's future education.

5. Give it away. Donating to charity not only does good in the world, but it also really feels good.

6. Buy a nice little something for yourself (emphasis on the little). If you do spend the entire year sticking to your budget and penny-pinching, it is important to treat yourself every once in a while so that you can keep up the frugal habit. The problem is when you start feast-or-famine thinking, which is how many people treat their returns.

J and I have not yet decided what we will do with our refund this year, but I'm thinking about suggesting a payment on my student loan, considering how close I am to paying that bad boy off.

How much did you get back this year, and what do you plan to do with it?



haverwench said:

We have a really hard time hitting that sweet spot of a small refund because my freelance income fluctuates so much. The way the IRS tells you to calculate your estimated tax requires you to know how much money you'll make over the course of the whole year, and of course, I never do. To make sure I avoid a penalty, I usually base my payments on last year's income, which means I often end up underpaying by a lot (but with no penalty) or overpaying by a lot. This year, we overpaid and got back over two grand. (Still waiting on our refund from the state of NJ.)

So what did we do with it? We didn't do anything. The IRS deposited it directly into our savings account, and there it's stayed. I guess at this point the balance in that account is high enough that we could take another big lump out and put it toward our mortgage principal, but there's no hurry--we've already paid down enough at this point that another big lump payment can't reduce the total amount of interest we pay by more than a couple hundred bucks. Or I could take out $5000 to fund my IRA for this year, but my payment for last year was made in September, so there's really no hurry on that either. As for our charitable giving, that's planned out so that we spread it over the course of the year--so even if we are giving more in total this year, we aren't giving it all in one big lump.

Basically, we are very, very boring people.

April 17, 2013 11:59 AM

frugal_fun said:

What we did with our refund was beef up our savings. I had mentioned in previous comments that 2012 was a "knock us on our fanny" financial year. The refund was a serious recharge.

I agree with, though, that it wasn't the best us of our money. We needed the money in 2012, not spring of 2013. The last entity that needs a interest free loan is the one that prints all the money. :)  I finally got around to lowering exemptions this year in hopes of getting to the low hundreds, rather than the thousands in refunds.

@haverwench - if you're willing to spend time "quality time" with tax tables every 3 months or so and with your annual tax return, you can vary the estimated payments with your income. There's more info here: www.irs.gov/.../ch04.html about annulizing income. I tend to agree though that the only way to "autopilot" estimated taxes is to pay 100% (or 110%) of last year's taxes.

April 18, 2013 3:57 PM

haverwench said:

Yeah, but then I'd have to file the full Schedule C instead of the short form I use now. Doesn't really seem worth it with interest rates as low as they are right now (since having the extra money in our pockets during the year wouldn't enrich us that much).

April 19, 2013 8:01 AM

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