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Your tax refund isn't a gift from the universe: It's actually money you've earned. During the 2019 tax season, the average tax refund was $2,741. That's enough of a windfall to make deciding how to spend your refund an annual event—will you put it toward a seasonal shopping spree, credit card debt, an upcoming vacation or something else? If you'd rather put your tax refund to good use instead of toward an impulse purchase, here are a handful of ideas to consider.
Pay Down Debt and Improve Your Credit
Your tax refund may offer a great opportunity to wipe out some credit card debt—and help you improve your credit score—in a few basic ways:
- Catch up on late payments. Your payment history is the single most heavily weighted factor when calculating your credit score. If you're in danger of being 30 days late (or more) on credit card or loan payments, using your tax refund to catch up is a strategic win. Late payments that are 30 days or more past due stay on your credit report for up to seven years and ding your credit score. Using your refund to avoid late payments is a lasting victory.
- Consider a secured credit card. Are you just starting to build or rebuild your credit? Applying for a secured credit card is one way to establish credit if you have a low credit score or a brand new credit history. With a secured card, you provide the card issuer with a deposit usually equal to your credit line. In other words, a $1,000 deposit could get you a $1,000 credit limit. One hurdle prospective cardholders have with secured cards is coming up with the deposit money. That's where your tax refund can come in handy.
- Pay down your credit card debt. The average annual percentage rate (APR) on credit cards is currently around 16%, according to the Federal Reserve. That can add up to hundreds of dollars a year if you carry high balances. Paying down your high-interest debt saves you money—and also helps boost your credit score. When you use a lower percentage of your available credit, your credit utilization improves and your credit score often rises accordingly.
Prepare for Financial Emergencies
The year 2020 might have gone a little overboard in illustrating the value of emergency funds. Between the global pandemic and the economic crisis—punctuated by wildfires, hurricanes and political upheaval—as well as all the major and minor personal financial crises people face in a typical year, the importance of having money in reserve has never been clearer.
Your tax refund is the perfect seed money for an emergency fund. Although it's a good practice to build up three to six months' worth of expenses in an emergency account, starting with a few thousand dollars from your tax refund gives you a huge leg up. You may not earn a massive amount of interest, but keeping your emergency funds in a dedicated savings account will help you avoid spending it.
Invest in Your Retirement
What's the best time to start salting money away for your retirement? Now. The sooner you begin saving for retirement, the more time your money has to compound and grow. You can add up to $6,000 to an individual retirement account (IRA), or up to $7,000 if you're age 50 or older by the end of the year. Or, if you've been waiting for the right opportunity to learn about the basics of investing, now may be the time.
Invest in Yourself
While it's possible to spend your $2,500 tax refund on 688 brown sugar boba drinks, you might use the opportunity instead to pay for something you can't ordinarily afford—something that represents an investment in yourself and your life.
- Well-being: Get the LASIK surgery you've been putting off. Purchase home exercise equipment. Get dental work. Make appointments for any necessary medical tests and procedures you didn't do in 2020. Health is the best kind of wealth.
- Education: Whether you're interested in professional development, mastering new life skills or simply having fun learning to cook or play the ukulele, classes are a great investment in you.
- Home improvement: Complete the home repairs you've neglected or consider a refresh. New flooring, fresh paint or an upgraded kitchen or bath are not only uplifting but may also boost your home's value.
- Fun: Especially after 2020, devoting your tax refund to a vacation, clothing that's suitable for wearing outside your home, dinner out for you and your mates, basketball tickets—or, frankly, anything that sounds fun and won't break the bank—is your well-earned prerogative to consider as businesses and events start coming back.
Using your refund to help others—a friend in need, a deserving charity, a community project, arts organization or whatever cause is close to your heart—will pay dividends that go beyond dollars and cents. Bear in mind, too, that donating even a portion of your refund to charity can be good for your soul.
Do Something Good
Getting a tax refund really isn't a windfall: It's money you overpaid to the government throughout the year. While a sizeable tax refund may be a sign that you should consider adjusting your withholding (or estimated tax payments if you're self-employed), it can also provide you with an annual opportunity to do something significant with a chunk of money—pay down your debt, amass savings, contribute toward your retirement, splurge or donate. And while the money itself is not a gift, the opportunity to do something good with it certainly is. Enjoy!