Tax Refund = Your Money

Today is the deadline for receiving many of the needed tax documents to start preparing your 2018 taxes, including W-2s and 1099-Rs.  So let’s take a minute to talk about tax refunds.

A tax refund is not free money.  It is your money that the government has been allowed to hold throughout the year without paying interest to you for loaning it to them.  No one would consider overpaying their bill to the plumber or the electric company, yet millions of Americans routinely do this when it comes to their tax bill.  So here is my challenge to you for 2019:  Stop it.

All of us are going to be filing our 2018 taxes under significantly changed laws, so this presents a perfect opportunity to learn how the tax code effects your household and make some adjustments to stop those interest-free loans to Uncle Sam.  Here’s how you will do it:

1. If you routinely receive a large refund, find the lowest one over the last few years and divide by 12 to figure out how much less you should be paying in federal taxes each month.  Your 2018 refund could be significantly different than previous years — take that into account.
2. Fill out a new W-4 (Employee Withholding Allowance) and submit it to your employer.  You need to adjust your allowances to get your federal withholding to the right amount.  The more allowances you claim, the less federal income tax your employer will withhold from your paycheck, the more take-home pay you will have.  The maximum number of allowances you can claim is 10.  I would suggest a conservative change of adding only 1 or 2 to your allowances to start and then file future changes with more allowances later in the year if you find you are still not hitting your target reduction in monthly withholding.  You can find the W-4 form and allowance calculation worksheets here.  If you are a two income family, then you will need to decide if you will tweak just one paycheck or both.
3. Use the money that is not going to Uncle Sam to improve your own bottom line.  Write down your plan and post it where you will see it.  Some suggestions include:
   • Pay off credit card debt (the average interest rate is 16%)
   • Build your emergency savings, especially pertinent after the recent personal stories reported during the government shutdown.
   • Boost retirement savings in your company 401(k) so you get at least the full matching amount.  Start a Roth IRA if this is not an option for you.

One final thought:  make a plan for your refund this year.  Indulge a little if you must but try to use most of it to improve your financial position.  Write down in specific details how you will use the money BEFORE you do your taxes (i.e. pay off the Visa card, save for college, start an account for our replacement car, etc.).  This post last week on NerdWallet may be good food-for-thought as you write down those goals.

To my friends in the polar vortex, stay warm!  If you would like to schedule a chat while sitting at home this week, you can find me here.