Use Your Refund to Grow More Money
If you received a refund on your tax returns this year, you were probably excited by the nice little boost you got to your cash flow. Here are a few smart ideas for your tax refund that will amplify your cash flow. (Yes, getting a tax refund is actually bad, but the majority of taxpayers actually do get refunds.)
The average tax refund is consistently around $3,000 and the IRS is estimating similar refunds for the 2017 tax year. So if you are going to get a refund, let's make sure you get the biggest benefit you can. Here are my favorite things you could do with that money and how they'll put even more money in your pocket.
7 - Kill Some Credit Card Debt
Benefit: $50 in your pocket every month!
Dumping all $3,000 into paying down your credit card debt probably isn't the most exciting thing you could do, but it will put $50 back in your pocket every month on an ongoing basis. In addition to increasing your net worth by paying off debt, you'll also stop sending money (interest) to your credit card company.
Assuming you have a typical 20% APR, that $3,000 payment to your credit cards translates to $600 per year in saved interest expense. Before rejecting paying off your credit cards because you are thinking about all the things you could do with the refund, think about all the things you could do with an extra $50 a month for the next 20 years.
6 - Build Your Emergency Fund
Benefit: Less stress (what's Prozac going for these days?)
If you don't have at least three months' expenses in an emergency fund, your refund can put a big dent in that goal. Even though it might be boring to stick the money into a savings account earning next to nothing, every expert from your local CFP professional to Warren Buffet stresses the need for an emergency fund.
Although an emergency fund isn't going to pay you back any monetary dividends, there is a lot of benefit to having a nice pool of money sitting in a savings account. An emergency fund takes a lot of the edge off of life, simply because you have the ability to write a check if something bad happens. Nothing solves a problem quite like a stack of cash.
Side Benefit: Better Potential Returns on Other Investments
Additionally, having a large and stable emergency fund gives you a cash buffer in your overall financial plan. This means you can responsibly take on more risk with the rest of your investments. While an emergency fund may not earn very much money, being able to take on more risk could earn you another 1% on your other investments. Most likely you'll end up with more money using this strategy than chasing returns by investing a small emergency fund.
5 - Give it to 'Old You'
Benefit: $30,000 in your pocket
Whether you already have a retirement account or you need to start one, dumping that $3,000 into an IRA will help you turn that $3,000 into a massive pile of money.
Assuming you invest for moderate risk, you can reasonably expect an average return of 8% per year. For a person in their 40's, over the next twenty years, the three grand will turn into nearly $14,000. And if you are in your 30's, you can expect it to grow to $30,000 by the time you retire.
Take on more risk and you could experience a 10% average return, netting a 45 year-old $20,000. by retirement and a 30 year-old over $50,000. Plus, making deductible contributions means you'll get the added benefit of having a bigger tax deduction (and refund) next year!
4 - Lower Your Insurance Premiums
Benefit: Hundreds or thousands of dollars each year
Assuming you already have a fully funded emergency fund, you might want to consider putting the refund into a new savings account to pay for a car accident, house fire, or other insurable risk. If you take that $3,000 and put it into an account to pay for an accident, you can safely raise your insurance deductible to $3,000.
Many people are get worried about raising their deductible because they are worried about an accident. Even if you hit someone, however, you have the deductible sitting in the savings account. And lower insurance premiums will quickly pay you back the $3,000 and more.
Like all insurance, your car insurance premiums are priced largely based on your deductible. Having a higher deductible will lower your insurance considerably. To find out how much, simply contact your insurance company and ask. Many people are surprised you can often double your insurance coverage and lower your premiums simply by raising the deductible by a thousand dollars.
3 - Give it to Your Mini-Me
Benefit: $13,000 of dollars
If you have children, funding a child's college account is a great way to reduce your costs for a degree. The money invested early will grow, and the difference can be dramatic over time. By investing $3,000 for a toddler, you could pay for well over $10,000 of college costs with that single refund.
Additionally, 529 and Coverdell accounts also offer tax advantages for the parents. The growth of the money is tax free if used for qualifying education expenses. And your state may allow you to take a state tax deduction for the money you contribute.
2 - Gamble and Expand Your Risk Tolerance
Benefit: Varies, do you feel lucky?
If you want to have a little fun with the refund, I see no problem with doing something a little risky with it. So long as your other areas of your financial plan are established (no high-interest debt, solid emergency fund, 10%-15% toward retirement). If there's a 'crazy' investment that you've been eyeing, but you just don't know if it's too risky, consider using your refund to make that bet.
The nice thing is if you lose, it won't impact your retirement, emergency fund, or other major goals. Investing the refund money into a stock or mutual fund that is a little too risky for your normal investing can pay off dividends and help you to stretch your risk comfort zone a little.
And you don't have to stick with publicly traded stock or mutual funds. You could bet the money on a new crypto-currency, invest through a crowdfunding platform, experiment with peer to peer lending, or start your own side business. Just be sure to do your research.
1 - Do Something Fun
Not everything has to be about saving and making money, even though technically this is still about saving money. If there is something you've been wanting to do, like take a vacation, add a deck onto your house, or buy a new car; your refund can help you achieve it.
Throwing your refund into a new savings account you create for that purpose could go a long way toward making that wish a reality. Even if the refund can't pay for all of it, the $3,000 jump-start might be just what you need to keep your savings motivation up. And it will avoid 'future you' going into debt to finance the fun.