Many of us taxpayers find that our tax refund slips through our fingers within a few weeks of receiving it. And some of us wished we had saved all, or at least some, of it.
What should you do with your tax refund? If you are among the want-to-be savers, here are a few ideas to help make that happen:
Lower Your Tax Withholding.
I promise this is the most complicated one. But if you keep more money in your paycheck instead of getting it in a refund you’ll have the money sooner, and you can let it grow longer.
- The first step is to adjust your withholding. The IRS W-4 tax withholding estimator can help you make sure you adjust your withholding to the right amount.
- Second, set up an auto-payment from your paycheck or from your bank account (to occur shortly after you typically get paid). The money should go to a savings account or investment account. If you are worried about touching the money too easily you could set an account up to an institution you don’t normally use or purchase inflation protected I bonds at TreasuryDirect. (See 3. below.) If buying I bonds please note that you can’t cash them within 1 year and you lose 3 months of interest if you cash them before 5 years.
Split Your Refund.
Did you know you don’t have to put all of your tax refund into one checking account? You can split it and put some in a savings account. Use Form 8888 to split your refund. Just file it as part of your tax return.
If you have a tendency to raid savings unnecessarily, here are strategies you can use to make that less likely.
- Have a savings account in a financial institution that you don’t use day to day. That may sound inconvenient, but that is the idea.
- Name your Savings accounts and Save with a Purpose: Another strategy is that many banks and credit unions allow you to name a savings account online, plus you can always just designate a savings account for a specific purpose. Many financial institutions allow you additional savings accounts without additional charge. The goal is to make you feel guilty taking money out of the Disney Vacation savings account.
- Use psychology to your advantage: Utilize Certificates of Deposit (CDs), which are offered by banks and credit unions. Typically, they will give you a little more interest than in a savings account. They often charge you an interest penalty if you take the money out early. (This small penalty is extra encouragement NOT to touch the money before it is time.) Often, they don’t keep up with inflation (both CDs and savings accounts), but they aren’t subject to some risks other options have. You may have to put the refund in a savings account and purchase the CD later if you want to use CDs.
Buy I Bonds with your Tax Refund.
The two big cons for I bonds is:
- You can’t cash them in for the first year of ownership
- If you cash them in before 5 years there is a 3 month interest penalty.
You can use up to $5,000 of a refund to buy I bonds. To buy paper I Bonds you use, Part II of Form 8888. If you have a Treasury Direct account you can purchase the I bonds electronically by filling out Part I of Form 8888.
Is it ok NOT to save your tax refund? It definitely makes sense to use your tax refund to pay the bills if it is needed for that. It makes sense to spend it on needed repairs and improvements. It even makes sense to spend some of it on some stuff you just want and to have some fun. But…
I encourage you to consider using some of it to place yourself in a better financial position–and, often that means increasing your savings.
Save with a plan and a purpose. Having both a plan and a purpose can help you stay focused with saving.
If you’d like help with savings, financial goals, and staying focused, contact us at Better Financial Counseling. Our accredited financial counselors work with singles and couples to build better financial futures.