The Best Ways to Use Your Tax Refund

calculator and numbers

For many people, a tax refund is the largest windfall of money they can expect in a year. Sure, it’s tempting to blow it all on a great vacation or major wardrobe upgrade, but getting a tax refund is a unique chance to improve your overall financial health. It’s not necessarily easy, though, to know exactly how the money should be used. The answer depends on your needs and current financial picture.

Top Up the Emergency Fund

broken headlight on vehicle

In 2022, it was reported that more than 50% of Americans could not afford an unexpected $1,000 emergency expense. For many years, a thousand dollars might have been considered an emergency “magic number” that could cover most car, home, or medical deductibles. It was also enough money to handle most routine emergencies or even a missed paycheck., but today, $1,000 isn’t enough.  $5,000 may be a more realistic number to make sure you can withstand most unexpected financial storms. However, as the cost of living continues to raise for many, this “realistic” amount can seem unattainable for many. That being said, it’s never too late to start building up an emergency fund. This should be considered separate from any savings and is essentially left alone until there is an event of great financial need. Its existence should be essentially ignored when financial planning, as it’s never something to be dipped into, save in the case of a true emergency. If an emergency strikes before your refund check comes, a title loan can help bridge the gap.

Pay Down Debt

paying with a credit card

There are two schools of thought when it comes to debt paydown.  

  1. The avalanche method suggests throwing all extra money at the debt with the highest interest rate. Once you’ve paid that debt off, move to the one with the second-highest interest rate. This method saves most people money over time. 
  2. The other method is the snowball method. Here, you start by paying off the smallest debt. Then, you add the amount you were putting toward that debt to the money you pay each month on the second-smallest debt until that debt is paid off, and so on. Some people really like the feeling of clearing away some small debts and the satisfaction of crossing debtors off the list.  

Either way, start by making a list of each debt, the amount of interest charged on the debt, the total amount owed, and the minimum monthly payment. Next, decide how you’d like to pay down the debt based on what makes the most sense for you and your goals. 

Invest in Your Retirement

elderly couple swinging on a swing

It’s never a bad idea to put money into your retirement. There are two ways to put a tax refund to work funding your retirement. The first method is just to chuck the whole amount into either a traditional or Roth IRA. The other way is to put the tax refund in a savings account and increase your contributions to an employer-managed retirement plan, like a 401(k). Each time you get paid, pull some of the money out of the savings account to replace the money taken directly from your paycheck. 

Plan for the Future

baby smiling

Maybe you are considering some major life changes in the next few years, like getting married, going back to school, having a baby, buying a house, or sending a child to college. A tax refund is a great tool to start building the nest egg required to fund these exciting life changes. Many people find it easier to manage money set aside for a specific purpose if they open a savings account or money market account dedicated to saving money for that purchase or event. That way, money earmarked to be the down payment on your first house doesn’t end up being used to fund everyday expenses. 

Invest in Yourself

woman drinking coffee

Investing in yourself is a great way to use your tax refund to better your financial health in the long term. What that investment will look like is different for each person. Perhaps a certification would open new doors in your career, or maybe you are thinking about a total career change and want to sign up for an intensive boot camp to learn a whole new skill set. Other people are already successful at their side hustle but need to invest in equipment, tools, or an assistant to really maximize the amount of income their side hustle brings in. Be careful not to let yourself spend more than you really need. For instance, if you need a basic computer to help your budding business, don’t splurge on the most expensive, top-of-the-line model. 

Take Care of Medical Needs

doctors performing a treatment

It’s fair to say that a good number of working adults put off obtaining the medical care they need due to cost. Your tax check is a great way to fund needed medical care. For example, most dental plans have very low caps on what they cover, and even then, they may only cover half of the more expensive dental work, like crowns, extractions, or bridges. Most dentists should work with you to come up with a long-range plan. For example, it might make sense to spend some of your tax refund in one calendar year to maximize the benefits of your dental plan but postpone the rest to the next calendar year so that insurance will help cover more of the total cost. Dental care isn’t typically part of most health insurance coverage, and neither is vision. Going for an eye exam and getting new glasses or contacts is another great use for your refund. For some people, it might even be worth it to get eye surgery that will correct vision problems and eliminate the need for contacts and glasses. 

Buy Life Insurance

ambulance at a hospital

Anyone with dependents should consider investing in life insurance to make sure their family isn’t left facing financial hardship upon their death. Using a tax refund to fund a year’s worth of life insurance premiums can mean less worry about your family’s future financial stability. The number of Americans with life insurance has trended downward in the past decade. In 2011, 63% of Americans had a life insurance policy, but today, only 52% hold a policy. Cost is a big factor in why people shy away from obtaining coverage. However, basic term life insurance is typically very affordable. 

Make Needed Home Repairs

person painting a wall in a house

Spending a tax refund on home repairs means taking a hard look at the difference between wants and needs. For most of us, our homes are our most significant investment, and we must protect those investments. Basic home maintenance can add up. Even things like cleaning out gutters or having septic tanks serviced can take a bite out of our budgets. However, delaying maintenance can let a small problem turn into a very large one  very quickly. So, if a roof is leaking, a pipe is dripping, or an appliance is starting to falter, spending the tax refund on those improvements can help protect your home. Painting the exterior of the house is another great way to spend money because the paint serves as protection for your house against the elements. Remember to get a few estimates on any significant work and to check references on all contractors.