Recently, a friend asked what to do with an IRS Tax refund. While that seems like a simple question there are a lot of things to think about. Being smart enough to ask the question, a few ideas already came to his mind… thinking along the lines of opening an IRA or putting a percentage into a savings or money market account, or paying down a credit card or loan. “All the financially responsible options other than buying a boat or a big screen TV”, he said.
Most people are excited to get a refund from the IRS. I always remind them that it is not a bonus check. They are getting their own money back from an “interest free loan to the government”. If the refund is large, there are some tax issues they should address first, such as reviewing their W-4 to ensure withholding allowances are appropriate. H&R Block is now famous for saying “Get your money back America!” I say, keep it to start with if you can!
The next step is to have a plan for how you want to use the money. My friend hit on a few good ideas. Below is a list of things to consider. You might prioritize them into a different order depending on need.
Emergency fund / savings
Major car or home repair, medical bills, etc. can all wreak havoc on your financial situation. It is a great thing to have funds set aside to handle everything that life throws at you… because it will (especially if you buy that boat)!
Pay off debt!
First look at the high interest debt you might have on credit cards or loans. Finance charges can really eat away at your accounts so get them under control. This might not be fun but when you consider how much you will save in future interest charges, it can almost seem like getting another refund!
Consider re-financing your home
Many people have already, but rates are at historical lows and mortgage companies are offering very competitive deals to win your re-fi. If it makes sense, and there is an upfront charge, your refund can be applied to closing costs and voila, lower monthly payments.
Open or contribute to an IRA
For 2015, people under the age of 50 can contribute up to $5,500, and over 50 can contribute $6,500. Talk to your advisor about the advantages of a regular vs. Roth IRA. Remember that this can take the current tax refund and create a tax deduction for the following year… not bad if you enjoyed getting money back from the IRS!
Build an education savings plan for children or grandchildren
There are a number of ways to do this with the 529 plan being one popular option.
Put the refund money into a taxable investment portfolio.
I always recommend doing some research to ensure that you are paying the lowest possible fees and expenses… that can make a big difference in the long run!
Consider charitable contributions
This can be a positive impact in your community and set you up for a tax deduction next year. Win – win!
If you have made a lot of good choices and still have money, treat yourself to something fun. You deserve it for doing such a great job!
To wrap this up, planning is what you really need to focus on during the year. As the old saying goes, we don’t plan to fail, we fail to plan. There are a lot of moving pieces in your personal finances. The rules change every year too so it is advisable to have an expert guide you along the way. You could be funding your emergency savings, retirement savings, charitable contributions, investments, and / or education all year long. Your Roth IRA would have that much more time to grow tax free! Keep your money America!!!
John Maupin, CFIRS
Director of Trust, Extraco Financial Services
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