Credit Sesame’s advice on how to spend your tax refund wisely this year.
Maybe you have planned how to spend your tax refund already. Most of us have no problem working our way through a windfall and a tax refund can fall into that category. If your personal finances are under control and you don’t “need” the extra money, maybe you can afford to indulge yourself.
If your finances could do with a boost, why not spend your tax refund wisely to get yourself into better shape financially? The U.S. and global economies are currently full of risk and uncertainty, especially inflation and future interest rate hikes. There’s even talk of a possible recession. Making your finances as healthy as possible could pay dividends in future.
There are several ways to use your tax refund to improve your financial well-being:
Boost your credit score with your tax refund
If money gets tight this year, you may need to borrow. Using your tax refund to get your credit score as high as you can may result in lower interest rates offers, making that borrowing less costly.
Here are two ways to give your score a quick and worthwhile boost …
1. Pay down your card balances
This will help your “credit utilization ratio?” According to FICO, the company behind the most widely used credit scoring technologies in America, this accounts for 30% of your credit score. It’s well worth understanding. For example,
- $1,000 credit limit
- $500 balance
- = 50% credit utilization
Pay your balance down to $250 and your credit utilization is reduced to 25%.
You should aim to keep all your credit and store card balances at or below 30% of their respective credit limits. Anything below that helps your score only a little. But anything above 30% actively harms your score.
So, why not spend your tax refund paying down any of those balances that are too high? And, if your refund isn’t big enough to get all your balances down to 30% of their credit limits, make getting them there a priority if you want to improve your credit score..
One thing that might help is to change your IRS W-4 tax form. That tells your employer how much to withhold for taxes from each paycheck. And, if you’re getting a big refund, there’s a good chance it’s withholding too much. Speak to HR or your boss about changing it.
Of course, that means you’ll get a small or zero tax refund next year. But it will give you more money each payday that you can use to get those card balances down.
2. Clear overdue or forgotten debts
Skipped payments sit on your credit report harming your score. The sooner you get yourself up to date on all accounts, the sooner your score should begin to recover.
You’re legally entitled to a free copy of your credit reports each year. And you can request yours by applying on the annualcreditreport.com website.
Once you have your reports, read them carefully. Are there any forgotten debts (or debts you wanted to forget) causing black marks against your credit score? If so, settle them now. If a debt item is 180 days or more overdue, get in touch with your creditor to see how to pay it off. And, if it’s a hefty sum, ask if they’ll accept a lesser amount in settlement. They may not. But if you don’t ask, you don’t get. Paying down old debt is an excellent way to spend your tax refund.
While you’re reading your credit reports, look out for any errors that are not in your favor. Such mistakes are more common than you might expect. Getting them corrected can boost your score at no cost to you.
Other ways to spend your tax refund responsibly
If your credit score is fine or not a priority, you can still get into better financial shape. Here are some ideas for your tax refund:
Pay down current debt
Debt’s already expensive. But it might get more so if the Federal Reserve keeps hiking rates. So pay down your variable-rate balances. Either start with those with the highest interest rates or eliminate small balances. And try to keep doing so after your tax refund has gone.
Create or boost an emergency fund
Many experts reckon incomes may continue to be outpaced by inflation. And, if they’re right, that will squeeze your living standards. Even the best budgeter can find it hard to adjust when prices outstrip earnings. And having a cushion in the shape of an emergency fund can make all the difference. A good fund can prevent you from needing to borrow more (and pay interest) to temporarily bridge the gap between your income and outgoings.
Choose to invest
High inflation (or the Federal Reserve’s efforts to tackle it) sometimes triggers a recession. If you choose to spend your tax refund on investments, you should take special care. Here are a few investment possibilities.
- Stocks and bonds. Remember, high returns almost always come with high risks. And risks tend to grow during recessionary times. We each have our own tolerance for risk. But keep that elevated threat in mind when choosing stocks and bonds.
- Your own business. If you own your own business, you might well want to anticipate the threats and additional weaknesses a recession and high inflation might bring. And you may wish to use your tax refund to get your company ready for those.
- Inflation-resistant objects. Objects can be good investments during inflationary times. Things like art by known artists, antiques, classic cars and fine wines often appreciate in line with – or faster than – inflation. But there are significant drawbacks. Objects provide no return until you sell them. It may cost you to insure and store them. They’re “illiquid” (even the wine) meaning it can take months to sell at desirable prices. Think very carefully and take professional investment advice before going down this route.
Don’t miss this chance to spend your tax refund wisely
Most people see their tax refunds as free money and are happy to spend them on treats and luxuries that are not strictly necessary. Depending on your financial circumstances, this may be fine. If your financial situation is precarious, it could be wise to spend your tax refund wisely so you are in a better position next year.
