Receiving a tax refund can be comparable to receiving a birthday check in the mail, which for many, myself included, can seem like permission and encouragement to treat yourself.
However, before spending your entire refund, pause for a reality check. A tax refund is not a present from the government; it is actually money that you earned, but overpaid in taxes throughout the year.
In 2015, the average tax return refund was $3,120 according to the IRS. While $3,120 might seem like a nice bit of cash, broken down this would equate to $260/month.
If you received an extra $260/month would you be inclined to spend it in the same way you would a lump sum of $3,000? So before you splurge on a vacation or upgraded electronic device, consider these three alternatives:
- Bulk Up Your Emergency Fund – As Mike Wren wrote previously, 3-6 months of living expenses is a target point for an emergency fund, but the optimal amount for each person will vary depending on your job security and personal situation. If your emergency fund is lower than it should be, consider contributing the bulk of your refund to it. If an emergency comes, your future self will be thankful you didn’t spend your entire refund at the mall.
- Invest Your Money – Contributing to investment accounts can provide long term growth needed for financial goals. Contributions towards retirement accounts can even reduce your tax liability, putting more of your hard earned money in your pocket. If invested, the refund of $3,120 could turn into $10,006 after 20 years, assuming a 6% return of investments, no tax and reinvestment of all earnings.*
- Invest in Yourself– If you’ve been contemplating a career change, eyeing a promotion at work or thinking about developing a hobby, consider taking a class to improve your skillset and further your personal development. Investing in yourself can pay off dividends in the long run through promotions, salary increases and overall contentment. Who knows, maybe that hobby will turn into an income stream one day.
Legacy Next’s financial forecasting has the ability to illustrate how an increase in savings and contributions towards your investments will impact your ability to achieve your future financial goals. We don’t want your financial or investment decisions to be stressful. Get more information to see how Legacy Next can help you grow smarter.
*Note this is a hypothetical example and does not reflect the performance of any specific investment.