10 ways to use your tax refund to improve your finances

By Andrew Housser

The average annual income tax refund is about $3,000. Smart taxpayers understand that this money is not just a windfall. Rather, it is the government returning your own money to you, when it becomes clear that you do not owe it to the government.

The good news about a tax refund is that receiving this lump sum gives you a great opportunity to make a difference in your financial future. Here are 10 ways to use a tax refund to brighten your money picture:

1. Pay down credit card and other high-interest debts (including payday loans).

About 20 percent of all credit cards are "maxed out" by their owners. Whether you are in that boat or just owe more than you should, applying your refund to your balance is a good move. As a bonus, you will improve your credit score, which is affected by the amount owed relative to available credit balances.

2. Build a cushion.

An emergency fund should include six to nine months' living expenses (not necessarily your salary amount, but the amount of money you would need for absolutely essential expenses). The tax refund can go into this fund, and be able to provide a significant cushion so you do not have to resort to credit cards or payday loans to cover unexpected expenses should an emergency arise. Keep emergency fund savings in a money market fund or rolling CDs so that the money earns interest and cannot easily be spent, but you can access it in an emergency.

3. Fund your future.

Contribute to retirement savings, whether an individual or Roth IRA, 401(k) or other plan. If the program is tax-deductible, you will be helping next year's tax picture, too. 4. Get educated.

Put the money toward a college savings plan for your child, or strengthen your own financial future by continuing your education. A $3,000 refund could pay for a good portion of an associate's degree, for instance. In turn, higher education can repay its cost: On average, associate's degree holders earn 23 percent higher salaries than high school graduates; holders of bachelor's degrees earn even more.

5. Refinance your mortgage.

If you are still stuck with a high-interest mortgage, that $3,000 refund can cover all or most of the costs of refinancing if your credit is good enough to do so. If you are able to refinance to a lower rate, and it makes sense for your situation, you could save thousands more in interest charges over the life of the mortgage.6. Invest in your home.

If you own your home, consider using your refund to cover major or minor maintenance to make sure no bigger (and more expensive) problems arise down the road. In addition, these capital improvements can increase the value of your home.7. Save for a child's retirement.

Taxpayers who are already contributing the maximum to their retirement savings might consider helping a child jump-start future retirement earnings. Children who are earning wages can contribute as much as they earn, or up to $5,000, to a Roth IRA. 8. Give to charity.

Using part or all of a refund as a charitable contribution earns two benefits. Taxpayers can receive a deduction on next year's taxes, depending on income limits. And of course, the receiving organization will benefit from the generosity. Be sure you receive a receipt for your gift.9. Contribute to an HSA.

Many people whose health insurance policy comes with a qualifying HSA (health savings account) do not fully fund that account. Yet contributions may be tax-deductible, and withdrawals to pay qualifying medical expenses{}-- at any time in life{}-- are tax-free. These accounts are essentially emergency funds devoted to health care costs, and so savings have a double benefit of tax relief and savings.10. Adjust your withholding.

Finally, talk to your employer about adjusting withholding so that next year, the government does not keep your money during the year -- you do. Instead of giving the government a loan all year, use the extra cash in your paycheck to invest in extra mortgage payments, retirement savings or repaying debt. Set up direct deposit to send the extra money in each paycheck automatically to a savings account at the same time that you make the tax withholding adjustment. You won't notice any difference in your paycheck, but you will notice a healthier savings account when tax time rolls around next year.

The choice of what to do with a refund can make a real difference in your financial situation. If you choose one or more of these options, you will have the satisfaction of knowing that you took back your own money - and put it toward a healthy financial future.

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