Tax season is in full swing and for many Americans, this means tax refunds. In 2021, Americans received on average $2,775 in tax refunds. In today’s post, I’ll highlight five ways to use your tax refund to grow your wealth.
1. Establish an Emergency Fund
An emergency fund is a key piece of any financial plan. A readily available source of money in the event of an emergency will help ensure that you don’t have to liquidate your investments or take out a high-interest loan when (not if) unexpected events happen in your life.
2. Pay Down Your Debt
The next suggestion is to use your tax refund to pay down your debt. Particularly any high-interest debt you may have like credit card debt, student loans, or auto loans. Note that I don’t include mortgage debt. Your mortgage is what I would consider “good” debt. It is likely at a very low-interest rate, and you receive some tax benefit from the interest paid on your primary home mortgage.
3. Save for Your Retirement
Consider contributing to a Roth or Traditional IRA to save for your retirement. Which IRA is best for you will depend on your personal tax situation, but almost everyone should consider contributing to an IRA as early in life as possible. Consider this, a 25-year-old who contributes $2000/year to a Roth IRA and earns an 8% annual return would have over $600,000 at age 65.
4. Contribute to Your Children’s Education
A 529 is an excellent way to save for your children’s higher education costs. If you’re concerned about the penalties if your child doesn’t go to college, a custodial account also allows you to save for future expenses without the stipulation that the money must be used for higher education. Note that saving for college comes after saving for your retirement for a reason. We don’t receive scholarships or grants in retirement. We all want what is best for our children, but It’s important that we take care of our financial needs first.
5. Spend It
Yes, the financial advisor is telling you to spend the tax refund. If you have a well-thought-out financial plan in place that you’re regularly contributing to, by all means, spend the money! Go on vacation, spoil the grandkids, give to your favorite charity, or do whatever makes you happy. Ultimately, the purpose of money is to provide us with the means to enjoy life by doing the things we enjoy.
Brad Lupkes, CFP®