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Let’s get right to it: you need to have a plan for how to use your tax refund if you’re anticipating one this year.
The sad truth is that most people treat a tax refund like an unexpected bonus, lottery windfall, or worse, free money from the government – they spend it quickly and without much thought and planning.
I can’t stress this enough: a tax refund, whether small or large, is a great opportunity to get ahead on your financial goals for 2018. But if you’re planning to use your tax refund to accomplish specific money goals, you’re wasting that opportunity.
Your priorities definitely may vary from year to year based on your financial circumstances, so doing what you always do with your tax refund is probably a bad idea.
The bottom line: you need a plan. The good news: we’ve got you covered with our list of 8 smart ways to use your tax refund and get ahead financially.
1. Donate Some of Your Tax Refund to Charity
“You mean I’m supposed to get money back and promptly give it away?!”
No matter your circumstances (other than extreme exceptions), giving to charity is always a smart way to use your tax refund – even when tax code changes threaten to wipe out tax benefits.
The simple truth is that giving money is one of the best ways to force yourself to become more mindful of how you manage money. And helping others is always good medicine for the soul.
Even if you give away just a few dollars, it’s worth it.
2. Start or Build Up an Emergency Fund
Most experts include an emergency fund in the development of a financial plan for a big reason: an emergency fund helps prevent unexpected expenses from destroying your financial plans.
At a basic level, an emergency fund
- allows you to relax because you know you have cash set aside for unexpected expenses
- helps you avoid debt every time a financial emergency arises
- and protects you from short-term layoff or loss of income due to illness.
An emergency fund is not an investment, so you want to be sure that yours is fairly liquid and accessible, even if it’s not earning high interest yields.
Here are a few recommended places to park your emergency fund:
FOR SMALL REFUNDS
Digit: I use Digit to passively grow a small sector of my emergency fund each month. Because the money is not sitting in my bank account, it’s just enough out of reach that I can’t spend it instantly while also close enough that I can access it in 1-2 business days. You can grab a $5 bonus for signing-up for Digit here.
FOR LARGER REFUNDS
CIT Premiere High-Yield Savings: Most savings accounts offer meager .2% returns, but the CIT Premiere High-Yield Savings Account offers 1.55% returns. Open an account with only a $100 minimum balance here.
3. Reduce Your Debt Levels (Especially High-Interest Debt)
With a solid emergency fund in place, the next highest priority for your tax refund could be reducing or eliminating debt – especially if you have high-interest debt like credit cards, pay day loans, or other high interest loans.
Student loans, car loans, home improvement loans, and second mortgages are the next tier of debts that tend to disrupt otherwise good financial health.
The problem: many people consider these types of debts to be completely normal.
And an ever bigger problem: some people don’t even know how much money they’re shelling out in interest every year on debts in this tier.
Pro Tip: If it’s been a while since you’ve taken a look at your debts, you can get a free look at your credit history and credit score, no strings attached, from Credit Sesame.
Their free report will allow you sort your debts and apply your refund in the way that makes the most sense for you:
- Their dashboard shows your current credit score, payment history analysis, and a debt analysis which includes your total debt obligations, monthly payment obligations, and debt-to-income ratio.
- CreditSesame shows a simple debt analysis which breaks down your debts into convenient categories: total debt, home loans, auto loans, credit cards, student loans, and other loans.
4. Invest and Reduce Your Tax Burden for 2018
If you’ve made it this far into our list of suggestions, <digital high five> to you! Very few people have a robust emergency fund and minimal to no high interest debt.
Depending upon your other financial goals and income levels, using your tax refund to reduce your tax burden for 2018 could be a smart move. Consider upping your contributions to your 401k, opening an IRA (for a limited time, WealthSimple is offering a sweet cash bonus on new accounts), or opening accounts to fund college education for your children.
5. Pay Down Your Mortgage
Pause with me for a moment and imagine a life without a mortgage payment. (If you can’t imagine it, check out the FREE E-book, How to Hack Your Mortgage and Save Thousands, written by my friend Andrew. This is the plan he and his wife used to wipe out their $320,000 mortgage in 6 years.)
What could you do with an extra $1,000 per month? $2,500? Or more?
For the average family, mortgage interest represents the second-largest expense that they will pay in their entire lifetime. In some cases, total mortgage interest paid on a 30 year mortgage can be approximately 75-80% of total principal, even at today’s low interest rates!
Pro tip: Use your tax refund to pay down your principal and you could shave several years off your mortgage, especially if you are already paying extra on principal on a monthly basis.
6. Invest in Non-Retirement Funds and/or Real Estate
If you’ve made it this far down the list, you’re a financial rock star. Nice work!
At this stage, I recommend a few simple options for anyone who is interested in investing beyond their retirement accounts.
Acorns: If you’ve got a bit of money and want to “play” with it in one of the least speculative ways possible, signing-up for an Acorns investment account is a smart move. In addition to investing $5 per week and rounding up to the nearest dollar on select purchases, I occasionally throw bigger sums of money into my Acorns account.
Since I started doing so over a year ago, I’ve averaged over 8% returns in Acorn’s Moderate portfolio. Plus, you’ll get a $5 bonus just for starting a new account.
Fundrise: My experience as a realtor has taught me that real estate investing isn’t for the faint of heart. Every transaction is loaded with lots of moving parts, potential dangers, and tons of emotion. Sure, there is money to be made, but it isn’t easy – not even close!
If you don’t have the personality to deal with this kind of hassle, you’re not necessarily relegated to the sidelines while others reap the benefits.
Here’s where Fundrise comes in:
- Fundrise offers investors the opportunity to invest in private market real estate.
- They offer the Starter Portfolio, which allows investors to allocate funds across three eDirect investment offerings, the East Coast eREIT, the Heartland eREIT, and the West Coast eREIT, which are diversified portfolios of private real estate assets located throughout the United States.
- With a 0.85% management fee and minimum $500 investment, Fundrise is one of the easiest ways to get yourself a piece of the pie in the real estate investing world.
Even if you’re on the fence about real estate investing or just not quite ready to dip your toe in the water, sign-up with Fundrise now – it is 100% FREE, with no obligation, and in doing so, you’ll position yourself to learn more and avoid wait lists
7. Improve the Value of Your Primary Home
At this stage, true fun begins. When you are financially well-poised for the future, a tax refund represents an opportunity to both invest and add joy to your life simultaneously. This is the time to make improvements around your home which increase your happiness and feature a high return on investment.
Good Investments: new front door, landscaping, deck or patio, kitchen or bath remodel, walkway lighting
Bad Investments: swimming pools, utility sheds
Related Reading: A Complete Guide to Planning and Executing Your Home Renovation
8. Build Sinking Funds for Bucket List Items
Last, but not least, I recommend that you use your tax refund to build separate sinking funds for a variety of priorities, such as vacations, new car purchases, secondary homes, or major home repairs.
The purpose of a sinking fund is to plan for future purchases which are far off in the future. At this stage, you do not want to be fooled into getting back into debt or be caught off guard by large, necessary expenses. With a sinking fund, you won’t be financially caught off guard when your house needs a new roof, your furnace fails, or your vehicle sputters and dies.
Are You Ready to Use Your Tax Refund Wisely?
A tax refund is a great opportunity to get ahead in your finances. But don’t forget – you need to have plan to make sure it’s not just another wasted opportunity.
One quick note:
If you haven’t yet filed your 2017 tax returns, be sure to check out your options with E-File.com and LibertyTax today – either may help you save money on your return, depending on your individual circumstances.