How to decide whether to spend or save your tax refund
Prior to Tax Day, the IRS issued over 70 million refunds, at an average of $3,256.
That’s more than $400 more than last year, when the average reimbursement was just above $2,800.
For many Americans, a lump sum payment of this size is rare and tempting to waste it.
Still, a growing number of filers — now 46% — plan to save their refunds, according to a LendingTree surveyup from 41% last year and 40% in 2020. About 16% said they plan to book a trip or splurge.
“It’s tempting to go on a spending spree after tax season, but don’t automatically think of a refund as ‘free money’ that you can use for insane purchases,” said Simon Zhen, an analyst at chief research for MyBankTracker.
“Using a tax refund to improve your financial situation is a smart move that can ultimately save money later.”
To get the most out of that money, Peter Casciotta, executive director of Asset Management & Advisory Services in Cape Coral, Florida, offers these tips for deciding whether to spend those funds on savings rather than a vacation or a new exercise equipment.
When to spend it
If you are a taxpayer with little or no debt, a sufficient emergency fund, and your retirement savings are on track to meet your goals by your retirement date, you can spend your tax refund, Casciotta said.
Most financial experts recommend setting aside at least six months of expenses in an emergency fund or more if you are the sole breadwinner in your family or are in business for yourself.
If you already have a decent emergency fund, consider your retirement savings, said Rita Assaf, executive vice president of retirement at Fidelity Investments.
When to back it up
Casciotta says you should save your tax refund if you’re not financially prepared for emergencies or need necessary household items, have multiple lines of credit, or have little or no retirement savings.
According to Bankrate.com.
The Covid crisis has also set back retirement savers, while low interest rates, rising inflation and continued market volatility pose challenges for long-term financial security.
People who can spend and save their refund are in the best position possible.
Pierre Casciotta
Executive Director of Asset Management and Advisory Services
Many 529 college savings plans offer tax benefits that are better than using a simple savings account.
You get a tax deduction or credit for contributions, and currently 34 states and the District of Columbia offer a direct state tax deduction for your contributions. Plus, earnings grow on a tax-advantaged basis, and when you withdraw the money, it’s tax-free if the funds are used for eligible educational expenses such as tuition, fees, books , accommodation and meals.
When to spend and save
Even if you aren’t fully prepared for emergencies, but are debt-free and have built up strong retirement savings, you could both spend and save some of your tax refund.
“They should use a percentage of the refund to create an emergency fund and use the rest to spend on something that makes them happy,” Casciotta said.
“People who can spend and save their refund are in the best position possible.”