This time of year has so much to recommend it: the weather is slowly warming (if you don’t happen to live in the arctic wilds of Wisconsin), the birds are chirping lovely melodies, and income tax season is fully underway.
Though I love seeing people dancing while dressed as the statue of liberty to advertise tax preparation offices, that’s not why I love tax season. No, the reason I am a fan of the lead-up to April 15 is probably the same as yours: anticipating a fat refund check from Uncle Sam.
In fact, this year will probably be a banner year for me refund-wise, as I seriously overestimated my estimated quarterly taxes in 2019. This means my husband and I have already started dreaming about ways to spend the money when it gets back: a new television set, an updated Xbox to replace the one we’ve had since about 2009, possibly sharks wearing laser beams, if the refund’s big enough.
But even though we already have a long list of wants for this year’s tax refund, we’re going to take a quick think break before we get the money in our hot little hands. Because taking the time to be intentional with your refund can help you to make the best possible decisions with the money.
Here’s how you can make sure you get the most out of your income tax refund:
Leave Guilt Out of Your Big Refund
Growing up, my father drilled it into my head that the best outcome for filing taxes was to receive a modest refund. That’s because letting your tax money take a trip to the IRS and back each year is equivalent to giving the government an interest-free loan on your hard-earned money.
You will see this attitude from any number of financial writers and experts (including yours truly on occasion). According to conventional wisdom, you would be better off reducing your withholding and investing the money that would have otherwise been taxed. And because of this constant drumbeat, people often tend to feel guilty about receiving a big refund.
But in the paraphrased words of Jeffrey “The Dude” Lebowski, this advice isn’t wrong, it’s just an asshole.
Here’s the thing. If you’re able to adjust your withholding and immediately set up an automatic transfer of the difference into your retirement account, then that’s a great way to painlessly increase your investments. And that’s exactly the kind of behavior that Dad was trying to encourage when he used to regale me with tales of tax refunds and lost investment growth. (His bedtime stories were a little unusual).
However, doing this requires a specific type of money mindset. You need to be:
· Detail-oriented
· Focused
· Able to make good decisions with small amounts of money
· Comfortable with the possibility of having no refund or owing money
If that doesn’t describe you, it doesn’t make you wrong, or bad with money, or silly. It simply means you look at money differently than the majority of financial experts who like to drone on about “interest-free loans to the gubmint.”
Which means your first step in deciding what to do with your refund is letting go of any sense that you’re doing money wrong. There is nothing wrong with getting a big refund, unless you want a different outcome.
Decide If Your Refund Is Too Big
That said, if you are receiving a refund whose sum feels like it could be a plot point in a Robert Redford film, you may want to think about whether you are maximizing your finances by having so much withheld.
This is especially true if you often feel like you have too much month at the end of your money, and your refund is equal to more than a month’s take-home pay. If you could ease your monthly financial stress throughout the year by reducing your refund, you may want to adjust your withholding.
You may also want to adjust your withholding if the size of your refund check seems to short-circuit your brain’s good decision lobe. Having a boatload of cash that feels free can lead to a lot of rain-making that you wouldn’t engage in with smaller amounts of money.
If you regularly receive a large refund and then spend it into oblivion without really knowing where the money goes, you may be getting too big a refund and could make better decisions with your money if it were more spread out throughout the year.
Ask Your Refund What It Wants
No matter how you decide to handle your withholding for future tax years, you can make better decisions with this year’s refund by asking the money what it wants.
This may sound odd, but treating your money as if it has feelings, goals, and dreams can help you to de-center your wants from your spending decisions. To start, asking your refund what it wants can help you remember that this money is your salary, not a free windfall. You worked hard to earn the money, and while it may be coming to you a in a huge lump sum because of the vagaries of the U.S. tax system, that does not change the fact that the money represents your labor.
With that in mind, you can ask this money how it can best serve you. Here are some of the answers you might get:
Your Money Wants to Ease Your Stress
If you have struggled with unexpected expenses or living paycheck-to-paycheck, you may find that your refund money most wants to smooth over the rough edges for the coming year. Putting your stress-relieving tax refund into an emergency fund can help you keep more of your paycheck in the coming year. Alternatively, your refund could ease your stress by paying down or paying off your debt.
In either case, your refund is making your current paycheck stronger since you will not be paying for preventable emergencies, high interest, late fees, or overdraft fees. A tax refund that wants to ease your stress is working to make its fellows (your current paycheck) do more for you.
In addition to putting this particular money into an emergency fund or using it to pay down your debt, you can keep honoring your refund check’s desire by making a plan to compound its good work. If you start an emergency fund with the check, set up automatic monthly transfers of a small amount of money into the emergency fund. That will ensure that you have money you need even if emergencies strike back-to-back. Similarly, if your refund pays down your debt, you can also set up regular extra payments to help the refund finish the job faster.
Your Money Wants to Grow
Perhaps your tax refund feels the call of compounding growth and wishes to answer it. Your money might recognize that your 401(k) is emptier than you’d like, and so it wants to volunteer as tribute to create future wealth for you. Money that you put aside now can grow exponentially over the next several decades, and your refund knows it’s made for such a wonderful fate.
For instance, if you receive a $2,000 refund this year and invest the money in an index fund in your 401(k), and see an annual growth of 8% per year (the average annual growth since 1957), your humble 2019 tax refund of $2,000 will be worth over $20,000 within 30 years. (This is the calculator I used if you’d like to check my math: Investor.gov Compound Interest Calculator).
And you can further honor your refund’s growth goal by setting up automatic contributions to your 401(k). This will make your refund’s growth happen all the quicker, helping it to achieve its dream of growing into a healthy nest egg for your future.
Your Money Wants You to Reach a Goal
Perhaps your tax refund whispers to you that it wants to be part of the home you dream of, or the education you put off, or the pilgrimage to your grandmother’s birthplace that you have always longed to take. Your refund may know that it has the power to help your dream come true, if you can put it together with some of its fellows over the coming months or years.
If you feel this desire from your refund check, find a high-yield savings account to park your money where it can enjoy a little growth as you work toward your goal. Set up regular transfers to your new savings account to help make your goal a reality sooner rather than later. Your refund check will burst with pride knowing it prompted you to save money and take steps toward living the life of your dreams.
Your Money Wants to Be Spent
If your refund asks you to spend it, make sure you’re listening closely. It can be easy to pretend that our wants just happen to coincide with someone else’s—especially when the other person can’t actually talk.
There are a couple of ways to deal with a refund that is asking to be spent:
1. Set the money aside in a savings account for several weeks. Money often seems less interested in being spent after you’ve had it awhile.
2. Identify what you hope to feel with the purchase. Are there other ways to trigger that emotion without spending your refund?
3. Spend a small portion of your refund on something fun. This will often satisfy a refund that just wants you to be happy.
4. Make a slow decision to spend. If your refund is insistent that you spend it, taking your time in figuring out what to spend it on will help make sure your refund feels no regrets.
The best way to honor your refund’s desire to be spent is to make sure your purchase aligns with your values and will continue to be a source of satisfaction in the future. You’d hate to spend it on something that no longer feels like a worthwhile use of the money after a time. You can productively spend your tax refund if that’s what it wants, but only if you commit to making your purchase with intention.
Collaborate with Your Refund
Your money wants to take care of you, including your tax refund. Making the best decisions with both your withholding and your actual refund check can help you feel more secure and help your money feel proud of its accomplishments.
With many thanks to @almost_joey for suggesting the topic.