According to the IRS, the average tax refund this year will come in around $3,000 per person. And going by a recent poll by TD Ameritrade, of those anticipating a refund, 63% plan to save or invest at least part of the money they receive, 51% are planning on paying down debt, 48% expect to pay for necessities like food or utility bills, and only 14% said they would use the money to splurge on luxuries like a new mobile phone or travel.
How does that stack up against smart financial strategy? Here are some financially astute ways of spending your windfall from the IRS:
Bolster your emergency fund
Use your tax refund to start an emergency fund or replenish an existing fund that may have been depleted over the past year. The old rule of thumb — enough cash to cover up to six months of living expenses. But some suggest even longer. The financial crisis left some out of work for a year or more so having enough to pay your monthly expenses for 12 months will be a good cushion if the worst happens. For example, if your expenses are $10,000 a month, you would need $120,000. No small sum. Remember, your emergency money isn’t just for if you lose a job. A sudden illness can come out of nowhere and be very costly if it keeps you out of work indefinitely.
AARP suggests using your refund to pay down a bill or to prepay part of your mortgage. “Reducing your debt load can improve your credit and also lower your monthly payment obligations,” the website says. The first step may be to set up a realistic debt repayment plan. Set specific goals for yourself. And most importantly stop using your credit cards once you get them under control. Overwhelming credit card debt is also a sign of the times, says Talking Cents.
In those years when Americans were more flush with cash, they may have put their refunds towards a retirement account or college savings. But with many Americans drowning in credit card debt, paying overdue bills has become a higher priority.
Make some smart home purchases
Recessionista.com (now Nicole Lapin’s webpage) says to start ticking off those items on your to-do list that are piling up. Energy-efficient windows? That’s a big money saver in the long run. Insulating your home? That will save you from getting hit with a big heating bill. Pouring your tax refund into a big project will save you money down the road and give you that feel-good feeling that comes from knowing you did the right thing.
Invest a little in yourself
Now may be the time to get that extra certification in your field or go to that conference you’ve been meaning to go to for the past few years, advises AARP. Joining a gym may be worth the money as well. The key is to invest in yourself. The money will be well spent and the return on your investment could be a raise, a new job, or added years to your life.
Make changes to avoid a big refund next year
Reminder: Your money can’t do much for you while it’s sitting with the IRS. Money Talks News founder Stacy Johnson suggests changing your tax withholding amount on your W-4 so you get to keep more of your pay year-round and won’t have that lump sum once a year that you’re more likely to spend.