Looking like you’ll get a tax refund this year? Your first instinct might be to buy something fun. Especially after the past couple of years of pandemic life. Here are a few alternatives to making immediate purchases with your tax refund. They might give you more bang for your buck.
Stash it in your savings account
One of the key rules of managing your finances is paying yourself first. That means putting aside a part of any income you may earn as savings. You can regard your tax refund as additional income. In that case, a part of it must go into savings. The easiest way to save is using a savings account. In a savings account, not only does your money stay safe, but you also earn interest on your funds every day. You may choose to view this as saving for a rainy day, or towards something special, like a vacation or a larger purchase such as a house or a car. You won’t regret delaying an immediate purchase of something smaller to save for something larger and more significant to you.
Create an emergency fund or add to an existing emergency fund
No one knows what the future may hold. So, you need to make sure you have enough saved up to help you ride out tough times. How much should you have in your emergency fund? About six months of your living expenses. If possible, you should try to build that amount up to a year’s worth of living expenses. Your tax refund is a wonderful income source to help that emergency fund grow. If you’re just starting out, here’s one easy way to determine how much your emergency fund should contain. The figure that you arrive at to calculate your monthly expenses must cover your rent, utilities, any fees or charges, debt repayments and a little extra for fun stuff like shopping or entertainment. As you can see, using your tax refund is a great way to save for the future, whether calm or calamitous.
Put it towards your retirement fund (and save on taxes)
(This one is your future self’s favourite tip.) Creating a retirement fund ensures you have a fixed source of income later in life that you can comfortably live off deep into your old age. It’s a way of taking care of future you. You can use your retirement fund to finance a hobby or start a new business after you retire. Many people also use the free time that retirement affords them to travel the world, or at the very least, their own country. You can use your tax refund to start a retirement fund, or add to an existing one, like an RRSP (Registered Retirement Savings Plan). Government programs like the Registered Retirement Savings Plan even come with the added benefit of tax-free growth, meaning you’ll save for the future and save some more in the future — on taxes.
And, with any solid investment, you’ll earn interest on your interest. This compounding interest effect can result in significant gains by the time you’re ready to retire.
Need more help planning for retirement? Our Innovation Wealth team would be happy to assist you to not only plan your finances for a comfortable retirement, but identify and plan for different financial goals.
Use it to ensure a better future for your kids (and save on taxes)
Sure, you want to save for your own future. However, your tax refund can be used to ensure a better future for your children, too. It can help pay for their higher education should they choose to go to post-secondary school. College degrees do not come cheap. You can put your tax refund into an RESP or Registered Education Savings Plan to create a fund for your child’s or children’s education. The money you put into an RESP can grow tax-free. That means, it’s an investment with little to no taxes levied. Taxes on growth are applied based on the recipient, who would be a young student, and fall into a much lower tax bracket. A win-win-win! Plus, through the Canada Education Savings Grant (CESG), the Government will match 20% of each dollar you put into an RESP account (up to $500/year to a lifetime maximum of $7,200). That’s thousands of dollars of free tuition!
Use your tax refund to reduce or get rid of debt
It’s almost impossible to live without some type of debt. You may take a student loan for your education, or a car loan to buy a vehicle. You may take a mortgage out to buy your home, or even use a credit card to fund your lifestyle. You may even have taken a loan from friends and family or a bank just to make ends meet. While it may be tempting to splurge on yourself when you get a tax refund, a smarter choice is paying off your debt. Any personal debt should be paid off as soon as possible. Same goes for credit card bills. With loans and mortgages, you should check to see if there are any penalties for making additional payments. If you can, try to pay off your mortgage early, or make a lump sum payment to reduce the repayment period and save on interest. If you cannot use your tax refund to pay off your debt, you may be able to use it to reduce your debt. For example, you could use your tax refund to make a larger down payment on your house or car and take on less debt.
Invest, invest, invest!
What’s the best thing you can do with money? Use it to make more money. Heard of the saying, “make your money work for you”? That’s exactly what investing helps you do. You can put your tax refund into different investment tools like mutual funds or stocks. Many types of investments may even help you get tax credits. Not only that, if you invest carefully, choosing to buy and sell the right stocks, your investments can afford you a handsome income in the form of capital gains. Even if you don’t indulge in stock trading, you will earn dividends on your investments, as a return on the money that you have put in. Of course, we always advise that you invest after thorough understanding of each type of investment and educating yourself, to prevent losing money. You may find it beneficial to speak to our investing professionals who would be able to guide you to make the right investments, whether it’s about your tax refund, growing your investment portfolio, or using investments to meet your financial goals.
Save it, invest it, or spend it to reduce your debt - what will you do with your tax refund this year?