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5 Responsible Uses for Your Tax Refund

This article was written by in Taxes. 10 comments.

For most citizens of the United States, tax season is over. There’s no longer a need to run around gathering documents. You’ll stop seeing television commercials for TurboTax and H&R Block in which each insinuates the other is a deficient company. You can stop thinking about government’s wasteful spending and income redistribution — which always seems to benefit someone other than you — for a year.

Unless, like me, you filed for an extension.

Did you or will you be receiving a tax refund this year? If you received a refund, it doesn’t necessarily mean that you are being subsidized by other taxpayers; it more often signifies the fact that you’ve paid more than you owe to the government. How very generous of you to offer the government an interest-free loan; you can be sure that if you owed the government money, by not settling your tax bill in full for example, they’ll charge you interest.

The debate over whether it’s better to receive a refund or owe the government a balance in April is hotly contested, with proponents of receiving a refund enjoying the “forced savings” throughout the year. I don’t think that’s a great benefit. Exercise some self-control and manage your money for yourself.

Nevertheless, it’s April, and those refunds are coming fast. Getting a check from the government seems to elicit an explosion of glee. Savings isn’t foremost on everyone’s mind. The refund isn’t free money. Unless you’re a lazy employee and manage to get paid for sitting around taking up space in an office, you worked for that money.

Previously, I’ve explored several ways to use your tax refund for fun. Sometimes, a refund can be like a windfall. It’s money you weren’t anticipating — a bonus. Why not throw caution to the wind and go crazy?

Or, if you’re an adult with responsibilities and no flexibility in your budget, you may want to consider more reserved options. These aren’t nearly as fun, but if you’re looking to get to financial independence faster, so you can have more fun spending your money without that nervousness in the back of your mind about the potential consequences to your prospects for wealth, consider the following.

1. Keep your refund in your savings account.

This year, Harris Interactive conducted a study on behalf of the American Institute of CPAs, an organization for accountants. The study involved a survey through telephone calls to a sample of the public, and the results indicate that this year, savings is the number one target for tax refunds. That’s great news, even if it means that Americans are already somewhat insecure with their accumulated savings.

Even though interest rates for even the best savings accounts are annoyingly low, they are important tools for establishing an emergency fund.

A tax refund could go far in insulating a family against a loss of income or a change in career direction.

2. Pay off debt.

While the Harris Interactive survey ranked paying off debt third among the tax refund priorities of Americans, I see debt reduction as tied for first, or at worst, second. Paying off debt will actually have a better financial return at the moment than boosting savings, because chances are good your debt is at a higher interest rate, even after considering any tax benefits like a student interest loan credit or the mortgage interest deduction, than what you can earn in savings.

Use your tax refund to bid adieu to a stubborn student loan. Get your credit card balance to a more manageable level (and resolve never to pay interest on credit card balances again). If you can do so without a penalty, ship some of your newly received cash to your mortgage company as a prepayment, and continue to send your normal payments in the future to remain ahead of schedule.

Putting a tax refund towards debt is simply one of the most responsible uses of money. Your future self will thank you when she arrives at a point of financial independence sooner.

3. Invest for retirement.

Retirement is a valid concern for today’s young worker. The threats to future Social Security benefits are getting attention in the media, and while the media often explain that prudent savings can add to to $1 million for retirement over thirty years, writers and gurus also fail to mention that the present course of inflation will likely render $1 million insufficient for funding the lifestyle that a millionaire might enjoy today. If you’re retiring in twenty, thirty, of forty years, aim higher. Much higher.

Anything you can add to your retirement funds will help you in the long run, assuming you live long enough to reap the benefits. There’s always that risk, as morbid as it sounds. So retirement needs should be carefully balanced with making the most out of the time you have today.

An IRA is an ideal choice for investing a tax refund. You can choose between a traditional IRA and Roth IRA, and the selection depends on your expectations for taxes now and in the future. After depositing your refund into the bank, you can easily transfer the money into a new IRA opened at Vanguard (my recommendation), Fidelity (also a good choice), or any other discount online broker that offers free investing in their own low-cost index mutual funds.

4. Donate your refund to a charitable organization.

Unless you’re considering a potential tax deduction, giving away money is not exactly the quick path to building wealth. But you don’t give to charity just for the tax deduction. Even if you believe that money you give comes back to you in the future, that’s still not why you give. I’m not saying I believe pure altruism actually exists; I think most people give to causes and organizations they care about because helping others provides the giver a sense of purpose, accomplishment, and efficacy.

With an extra $5,000 to spend, you’d likely use it for something with little meaning. Give it to a non-profit organization, and they’d use the money to help in disaster relief, buy materials for building houses for the poor, or supply a school with musical instruments or other learning materials. You could fund a small scholarship.

5. Invest in yourself.

Your personal human capital doesn’t get the attention it deserves. The focus is on net worth so much that people may often forget that today’s numbers aren’t the full measure of a man or woman. Yes, by improving your human capital also means a higher potential for lifetime earnings, but being well-rounded is its own reward.

To invest in yourself, you can use some of your tax refund to enroll in for-credit classes that get your closer to another degree. You should also consider courses that, while not destined for a degree, improve your skills in your current career or open a path towards a new career.

If you have the capacity to be successful with a business on the side, in addition to your day job, your tax refund may be the capital you need to get started or to get ahead. Investing in your own business shows that you are serious about taking the nest steps towards building a career for yourself, with the goal of independence from corporate careers.

If you have your financial priorities squared away, are in no danger of going over your budget, and are already cruising towards financial independence, it’s understandable to forgo these responsible choices in favor of something more fun. Buying yourself presents, like vacations or improvements to your house or car, can give you satisfaction that may not come for a while if you’re investing for your retirement instead. There’s a right time and a wrong time to spend money frivolously, even taking into consideration the importance of treating yourself and your family.

It’s been a long time since I’ve received a real tax refund. I do try to slightly overpay on my estimated taxes, but that small refund is no consolation to me when I sign much larger checks for the government’s benefit.

Are you receiving a tax refund this year? What do you plan to do with the money?

Published or updated April 16, 2013.

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About the author

Luke Landes is the founder of Consumerism Commentary. He has been blogging and writing for the internet since 1995 and has been building online communities since 1991. Find out more about Luke Landes and follow him on Twitter. View all articles by .

{ 10 comments… read them below or add one }

avatar 1 Anonymous

Are you receiving a tax refund this year? No
What do you plan to do with the money? Watch it go and whine about how it’s spent.

I try not to lend any money to the government over the year – their credit rating is not that good ;-)

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avatar 2 Anonymous

Actually there credit rating is Aaa, which is the highest level rating that Moody’s reports.

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avatar 3 Anonymous

I am receiving a refund and it is going into my savings.

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avatar 4 Anonymous

It’s going into our remodel!

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avatar 5 Anonymous

I got a $90 refund. I had it direct deposited into my checking account, and let it disappear into our day-to-day expenses.

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avatar 6 Anonymous

We received more back than we anticipated. Usually we don’t get back much at all, but my husband had more travel business expenses than is usual. We included it with our investments. Nothing really exciting, but it was responsible, I guess.

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avatar 7 Anonymous

Luke, you’re right that getting a tax refund is merely getting back money that’s yours (but have lent the government interest-free for the past year)!

I’m not a fan of the “forced savings” idea. Just like you, I would much rather manage that money myself, thank you very much.

But since I don’t really have a choice (and will get a refund), I intend to put some of it towards savings and the rest towards investments. While it may be a year late, I’m definitely going to put this money to work for my future!

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avatar 8 wylerassociate

We spent our tax refund paying down debt, contributing you to our Roth IRA, buying stock & to pay cash for groceries, bills instead of using the credit card.

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avatar 9 Anonymous

I got a small refund this year. I used it to open a Fidelity account to go along with the 2% rewards credit card.

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avatar 10 Anonymous

I could not agree more that a refund is an interest free loan and there are more economical, effective ways to use the money through out the year. I am a firm believer that a tax payer should consider taking more from their pay check to break even at the end of the year – no tax liability nor a tax refund – ideally, but a challenge to accomplish. However, if historically a tax payer has received a refund, then he/she should modify the W-4 to use the money through out the year and maximize the contribution to a Roth IRA or an interest bearing account. There are various options that a tax payer can do vs giving the government an interest free loan. Great article!

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