It's March in Colorado—which means that snow and freezing temperatures are still much too likely, and the promise of springtime fun in the sun is so close...yet so far. It also happens to be prime tax season—and we all know that tax season can lead perfectly rational people to want to bang their heads against the wall when faced with the far-too-confusing world of tax returns. The stress and worry about getting everything done correctly can be a bit overwhelming, leading many people to procrastinate—in fact, tens of millions wait until the last two weeks to file, despite 8 out of 10 people actually receiving a refund.
If you're one of the many getting a refund this year, the elation felt upon receiving that check or notification of a bank deposit may quickly be replaced by the nagging question of what to do with it. Everywhere you look, you're pummeled over the head with too-good-to-pass-up offers to spend, spend. spend. Junk mail promising "yuge" savings starts to take over your kitchen counter. Unsuspecting Americans are led to believe that they should—they must—fork over their tax refund money to buy…well, all sorts of things. The average refund for a Colorado taxpayer is $2,216, or about 4% of the state’s median income of $55,387. With all that extra cash floating around, it’s no wonder businesses pull out all the stops to get even a small chunk of that change.
We all know what we should do with it. Pay down debt? Yes. Put some away for retirement? Sure. Start or pad your emergency fund? Absolutely. But, what shouldn’t we do with it? Here are some of the don’t-even-think-about-it, worst-things-you-can-do-with-that-refund scenarios:
Take out an advance
The worst thing you can do is commit your refund before you even have it in hand. Many tax preparers will offer you a refund anticipation loan which is essentially an advance on your refund; however, there are a couple big problems with these cash advances. First, there are usually hefty fees, interest rates, and other costs associated with them. Second, you never know exactly what might happen between the loan and the refund being processed. Did you forget to enter one of your 1099s? Did you apply for a deduction you aren’t actually eligible for? Any number of issues can impact your exact refund amount. But, a loan is a loan, and if you don’t end up getting a refund because of an audit or other issue, you’ll be on the hook for the principal and any associated fees you've accumulated. Read the fine print before signing anything, or better yet, try to wait until the real refund arrives.
Get it on a gift card
These days, it’s more and more common to see the option to have your refund “conveniently” put on a gift card instead of sent by check or direct deposit. Don’t be fooled. Even if it’s a Visa or Mastercard prepaid card, don’t let someone put your hard-earned money into anything other than your bank account. Why? A few reasons. First, if it’s a major big box store gift card, it can only be used at that store, which limits your ability to comparison shop. Second, if you don’t register your card (who here has actually done that?) in the event it were to be lost or stolen, you’ll be on the hook—and out of luck.
You just won a new car! (No, not really)
This one is really bad. You just got a chunk of change that you could use to pay off debt, but instead you use it to…create more debt? Don’t do it. If you're in the market to make a large purchase, you can usually get a better deal by financing through traditional methods. While researching this topic, we found a car dealer who claimed it’s “smart” to use your refund to buy a used car; a “manufactured” home (a.k.a. mobile home) seller in Texas who urged buyers to “triple” their refund; and, our personal favorite: a clothing retailer who promised “the antidote for taxes is one click away.”
Go to Cuba
Vacations are fun, and, some would argue, absolutely necessary to live a balanced, fulfilled life. Those who are fortunate enough to receive paid-time off from work might typically save up for a vacation, and seek out a good deal on airfare/hotel, etc.; when a perceived windfall like a tax refund comes around, however, frugality can suddenly fly out the window. If you were already planning on taking a trip, take it—but, do you really need to upgrade to that first-class seat, or stay at that five-star hotel? We promise you'll have just as much fun if you stick with the original plan.
Get a refund next year
OK, this one is a little misleading because it isn't something you can do with your refund—but, it's an important point nonetheless. A tax refund is not a savings account, because even the stingiest of retail banks would still give you 0.10% interest. The IRS, on the other hand, gives you 0%. Nada. For the average Coloradan, that interest would equal $2.22 at the end of the year. Not much, right? Well, using a handy compound interest calculator, we can see that, if the average Colorado taxpayer kept adding the average $2,216 refund amount to a savings account year-over-year, and then let it sit for 10 years (compounding monthly), he or she would have $24,508.51 at the end—with $2,348 of that in interest. That's enough to pay off any number of credit cards, student loans, or other revolving sources of debt. Now, that’s a real windfall.
If you’re getting a refund or have already gotten one, what are you planning to do with it? Leave your thoughts in the comments.