You filed all of your forms and to your joy you’re getting back a tax refund. And it’s a nice sized one too!
It’s awesome, right?
Not so fast.
Getting a lump sum payout after filing your taxes feels great. But I’m going to show you that it may not be as great as you think. There are better ways you can use your money (and it is your money).
Read On asI Tell You 5 Reasonsa Large Tax Refund is Bad.
1) Your large income tax refund is an interest-free loan to the government
When you get back a large refund it means the government was able to hold on to your money over the past year to do with as they wanted.
And what do you get in return for allowing them to hold your money?
You get your money back. That’s it. It was a free loan.
Know what happens if you owe the government money for a year?
Penalties and interest tacked onto what you owe. Even a low-interest savings account gives you something back. So why loan your money out for nothing?!?
2) Inflation
As defined by the Bureau of Labor Statistics, inflation is “a process of continuously rising prices, or equivalently, of a continuously falling value of money.”
What this means is a dollar today will be worth less than a dollar a year from now. There’s a neat little inflation calculator on the BLS site. Plugging in $1000 for 2012 I see this has the same buying power as $1014.65 in 2013. This means I need $14.65 more in 2013 to buy what I did in 2012.
If you get a $1000 tax refund for the previous year it’s really only worth about $985! By letting the government hold your money you’ve lost $15 in spending power! That doesn’t seem like a good deal.
3) You May Be Inclined to Spend Your Large Tax Refund
I hear so many people say something along the lines of “I can’t wait until I get my tax refund so I can buy…”
Getting a big chunk of change at once can give someone big eyes to go spending. If you have the money broken out in smaller pieces in your paycheck rather than one lump sum you may be less inclined to spend it all on a big purchase.
According to a survey by Capital One, more than a third of Americans plan to spend all or part of their tax refund. Mint.com reports that the average refund comes out to about $2,800.
So many people plan out purchases based on their tax refunds.
While it’s not a terrible thing I really think creating an automated savings plan is a far better plan, especially when your refund varies from year-to-year. And odds are the new money isn’t being put to savings. It’s probably going to a big purchase or to cover bills from the prior holidays.
4) It’s Your Money!
This is a simple one.
The money is yours. Why wait for it?
Look, if you like lending money out in small pieces just to have it handed back to you in one lump sum at a later point then contact me and I’ll hold it for you! Really. I’d love to have your money growing in my accounts. I’ll give you back what you gave me.
5) You Need the Money In Your Paycheck
I get using your tax refund as a type of savings vehicle. I do. My wife and I do a little snoopy dance when we get a nice refund (our income had been variable the past few years so it’s been hard to adjust our W-4’s for a low refund).
But some people need that money in their paychecks!
If you’re struggling to make ends meet, robbing Peter to pay Paul all year, then a little extra in your paycheck could go a long way to helping with bills and reduce stress. I don’t get struggling paycheck-to-paycheck when you have the power to make that better.
So what to do about a large tax refund?
The goal should be to get as close to zero as possible on your tax return (you don’t owe taxes and the IRS doesn’t owe you a refund).
Change the withholding on your W-4 form so that you can get more in your paycheck rather than pay out more taxes every pay period and get a large refund next year.
If you have questions about your W-4, and your taxes in general, then it’s not a bad idea to consult a tax professional and discuss how you can maximize your money.
Is getting a big tax refund a good thing? No, some financial experts and taxpayers say, because it means you're giving up too much of your paycheck to taxes during the year. If less is taken out for taxes, you'll get a smaller refund but more money in each paycheck for expenses or saving and investing, they argue.
However, the size of the refund you receive depends on a wide range of factors. Things like how much money you earned, how much you paid into taxes and what expenses you faced throughout the year all play a role. Moreover, if you're a homeowner, you may be able to increase your tax return even further.
So far in 2024, the average federal income tax refund is $2,850, an increase of 3.5% from 2023. It's not entirely unexpected: To adjust for inflation, the IRS raised both the standard deduction and tax brackets by about 7%.
The Department of Community Services and Development encourages Californians earning under $30,000 a year to file their taxes to claim the California Earned Income Tax Credit (CalEITC), a cash-back tax credit, and receive a larger tax refund.
If you make $60,000 a year living in the region of California, USA, you will be taxed $13,653. That means that your net pay will be $46,347 per year, or $3,862 per month.
Claiming 1 on your tax return reduces withholdings with each paycheck, which means you make more money on a week-to-week basis. When you claim 0 allowances, the IRS withholds more money each paycheck but you get a larger tax return.
Ramon Christopher Blanchett, of Tampa, Florida, and self-described freelancer, managed to scoop up a $980,000 tax refund after submitting his self-prepared 2016 tax return. He also allegedly claimed that he earned a total of $18,497 in wages — and that he had withheld $1 million in income taxes, according to a Jan.
Does a Large Refund Trigger an Audit? Not necessarily. But if the refund is a result of fraudulent claims, such as inaccurately reporting income or claiming deductions you're not actually eligible for, then it can trigger an IRS audit.
You may be in line for a smaller tax refund this year if your income rose in 2023. Earning a lot of interest in a bank account could also lead to a smaller refund. A smaller refund isn't necessarily terrible, since it means you got paid sooner rather than loaning the IRS money for no good reason.
If you make $40,000 a year living in the region of California, USA, you will be taxed $7,507. That means that your net pay will be $32,493 per year, or $2,708 per month.
If you make $20,000 a year living in the region of California, USA, you will be taxed $2,687. That means that your net pay will be $17,313 per year, or $1,443 per month.
Getting more money with each paycheck may simply go toward funding existing needs and wants, rather than toward a 401(k) or savings account. And families that receive tax refunds tend to have lower incomes than those who owe the IRS — at about $50,000 versus $71,000, according to an analysis from JPMorgan Chase.
A tax refund isn't a good thing because it's money you could have had access to during the previous year. If you'd received more of your money during the year, you could have invested it, paid off debt, or padded your emergency fund.
Why is receiving a large tax refund a bad thing? the government is taking your money, investing it, and giving you no interest for your money. They are giving back the same amount of money that you could have invested or saved, and allow your money to grow.
“The best strategy is breaking even, owing the IRS an amount you can easily pay, or getting a small refund,” Clare J. Fazackerley, CPA, CFP, told Finance Buzz. “You don't want to owe more than $1,000 because you'll have an underpayment penalty of 5% interest, which is more than you can make investing the money.
Introduction: My name is Nathanael Baumbach, I am a fantastic, nice, victorious, brave, healthy, cute, glorious person who loves writing and wants to share my knowledge and understanding with you.
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I hear so many people say something along the lines of “I can’t wait until I get my tax refund so I can buy…”