This is a re-post but highly relevant. Enjoy!
As most people filed their tax return before the income tax deadline, it’s now a matter of waiting for that juicy tax return. Most consider tax refunds to be “free money” that was unaccounted for. And it’s true, you can do whatever you want with the money. However, in my opinion, tax returns should be used wisely as it’s basically money that you overpaid to the government during the year.
Although they may seem like common sense, here are my some ideas on how to use that tax refund:
1. Pay Down High Interest Debt
If there is credit card or other consumer related debt on your personal balance sheet, then all “unplanned” income should pour into high interest debt. Paying down a 19% rate credit card balance, is the same as returning 19% after tax (guaranteed) on the market. Good luck finding a GIC with that kind of yield.
2. Pay Down Your Mortgage
I must admit that when people ask on what to do with their excess cash flow, besides the obvious of high interest consumer debt, paying down the mortgage is probably what I suggest most. There are a couple reasons for this. First, paying down the mortgage provides a guaranteed after tax return, second, it’s dead easy to do. Even though investing in the markets may outperform paying down the mortgage balance (if rates are low), not everyone has the time or patience to learn how to invest.
3. Contribute to your RRSP
I remember a while back when I read Preet’s RRSP Book that it had many examples of RRSP vs non-reg portfolios. To my surprise, the non-registered portfolios can very close in after tax returns. The conclusion was that RRSP’s are superior only if the tax refund is reinvested or used to pay down debt. What does that mean for you? If you contributed to an RRSP, at the very least, take the portion of your tax refund attributed to your RRSP contribution and reinvest it/pay down debt.
4. Contribute to your TFSA
Depending on your situation, it may be more efficient to contribute to your TFSA. Certain cases like employees with a generous defined benefit pension plan where retirement income will be fairly high, the tax free withdrawals from the TFSA during retirement is welcomed. In addition, TFSA withdrawals do not count as income, thus will not be used in senior benefit clawback calculations.
5. Contribute to an RESP
Here’s something a little different. If you have children, if you contribute $2500 per year to an RESP, you can receive the max government matching of $500. The account can grow tax free and withdrawals are taxed in the hands of the student when they start higher education.
6. Build your Emergency Fund
Having a large emergency fund may not be required for every situation, but I believe that having some liquidity is extremely important in every household. If you haven’t started a cash emergency fund, one way to fund it is with the tax refund.
7. Invest in Yourself
Instead of investing the tax refund in the market, consider investing the money in yourself (or your business). Most of the money accumulated in your life will be due to your career or your business. Take courses, improve your credentials, even buy some books. Do something that adds value to your company, whether you own it or not, it will bring benefits.
This year, I ended up with taxes owning with my wife expecting to receive a refund. Going down the list, we’ll most likely use the refund to contribute to our RRSPs. Back to you, how will you be using your tax refund?