—Hey Taylor – I just got my tax return and I’m trying to figure out the best way to spend it. It’s a little over $2k and I don’t know if I should pay off a credit card, invest it, or use it as the money down on a new car.
What do you think?
—Hey Julia – Congrats on getting some money back! After a long year of paying taxes, it always feels nice to have a little cash returned for once.
As for what to do with it, there are some very good options that aren’t particularly exciting. Depending on the current state of your finances, you should use your refund in one of these three ways.
1. Pad your emergency fund. One of the hardest concepts for people to grasp is that you need an emergency fund even when you’re in debt. It might feel like you need to put every penny toward your credit cards, but you still need to build up a cash reserve to save yourself from future debt when unexpected medical bills and car payments arise. If you currently have no safety net, I’d put the entire refund in savings and call it a day. The goal is to eventually have about 3-6 months of living expenses tucked away, but you have to start somewhere and using your return money is a great way to get things going.
2. Pay off debt. If you’ve already got a little bit of savings socked away, it’s time to get the debt off the books. Whether you’ve just got a little credit card debt or so much that it keeps you up at night, paying those balances down will reduce your interest payments and get you closer to making quality investments. As long as you’re spending on credit and carrying a balance, your financial situation is a little bit of a smoke and mirrors act. Take advantage of the opportunity to make a big dent in that debt and set yourself free.
3. Save for retirement. If you’re contributing to a retirement account through your employer, that’s great. Now it’s time to put money into an IRA or a brokerage account so you can build your future wealth even more. If you turn 50 and wish you had more money saved for retirement, there’s not a lot you can do about it; if you start saving extra at 40 you’ll be in better shape, and if you start putting money away consistently when you’re 30 you might actually be able to retire on time. A new car probably feels more pressing, but if you can wait on the vehicle and get more money in an IRA, your future self will thank you.
The urge to treat yourself when a bonus or a tax refund comes in is a hard one to resist. If you take this chance to be very practical it’s going to be that much easier to treat yourself in the coming years. Thanks for the question, Julia!
TAYLOR J KOVAR
CHIEF EXECUTIVE OFFICER
CERTIFIED FINANCIAL PLANNER™
