Tax season often brings a feeling of dread, but once all is said and done, many people look forward to reaping the rewards of a hefty tax refund.
As of December 2019, there were about 111.8 million refunds issued for that year, totaling $320.1 billion. The average refund was $2,869, according to the IRS.
Tax season opened this year on January 27. If you filed your taxes electronically, you may have already received your refund in your bank account. And if you're among the millions of taxpayers who claim the additional child tax credit or the earned income tax credit, you may start to see refunds arrive in early March.
If you file a complete and accurate paper tax return, your refund should be issued in about 6 to 8 weeks from the date the IRS receives your return. If you file your return electronically, your refund should be issued in less than three weeks, and even faster than that when you choose direct deposit.
Getting extra money back can be exciting, and you may be tempted to splurge on a new handbag or the latest smartphone, but the joy of those kinds of items is short-lived compared to the many ways your tax refund can help you get ahead financially.
Here's how you can use your tax refund to improve your financial health and meet your money goals.
One way to put your refund to good use is to pay down any debt you have, since debt can set you back from meeting other financial goals.
When paying back loans, the first step is to take a long, hard look at how much debt you have, and what your interest rates are, says Leslie Beck, a certified financial planner with Compass Wealth Management LLC in Rutherford, New Jersey.
"If you have any debt — credit card debt, student loans, or anything like that — start by paying off the most expensive debt that you have," says Beck. "And when you do that, make sure that you indicate that you want those funds to go towards paying down principal." That will help you eliminate your debt faster and pay less in interest over time.
Only 41% of U.S. adults have enough savings to cover a $1,000 emergency room visit, for example, or car repair, according to a recent survey from Bankrate of 1,015 adults. Of those surveyed, 16% said they would finance an emergency with a credit card.
If you don't have enough in your savings to cover 3 to 6 months worth of essential living expenses like rent, food, and transportation, you may want to consider using your tax refund to beef up your emergency fund.
"I would use those funds to start or augment your emergency fund," says Beck.
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If you haven't been making sure you at least invest enough in your 401(k) at work to get the full employer match, you can use your tax refund to get to that point. However, if you are already receiving the maximum match your company will give, Beck suggests opening a brokerage account and investing in an index fund.
Index funds track the performance of a particular market benchmark, like the S&P 500 or the Dow Jones Industrial Average. They're a form of passive investing because they allow investors to buy a lot of assets at once and hold them for the long term.
"If you're going to invest, and you don't have a very large portfolio, I would steer away from investing in an individual stock. You don't want to put all your eggs in one basket," says Beck. "I recommend investing in a basket of stocks like the S&P 500, where it's going to be pretty unlikely that all those companies all go down by the exact same amount."
Consider using a portion of your refund to pay for time with a financial planner. Meeting with a financial planner is a good way to map out your personal money goals and figure out how you can best use your tax refund.
"Spending some time with a financial planner is a good way to make sure that you are following financial advice that is tailored to your specific situation." Beck recommends meeting with a planner who works on an hourly basis, and having a list of questions and goals prepared beforehand.
"The most important step to take after you receive your refund is to make sure that any decisions that you make about how to spend your tax refund are conscious decisions that are going to help you," says Beck. "They should help you get a step closer to the goals that you have."
Your employer deducts part of each paycheck for federal and state taxes. How much they withhold depends on your earnings and how you fill out IRS Form W-4, which goes to your employer and includes your filing status, as well as the number of dependents. The more allowances you claim for you, a spouse, and dependents, the more money remains in your paycheck each pay period.
Upon filing your taxes, you'll receive a refund if you paid the IRS more than you should have. If you're getting a lot of money back, though, that could be a sign that you need to reexamine your withholding election on your W-4.
"When you get a refund, it means that you've given an interest-free loan to the government," Beck says. "They've been holding on to your money and using it, whereas you could have been holding on to that money and using it."
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