You can’t wait to get your tax refund to buy an Apple Watch, right? Perfect timing, isn’t it? You’ve ordered the watch and won’t pay until June when it will be shipped. And voilà! Your refund will be available.
This is your special time of the year. Waiting for the government to confirm your tax refund and send your check. It doesn’t get better than this. That’s the essence of a recent discussion with an elated individual.
Regrettably, I could not agree with this person, whom I will call, Tom. I know how deeply indented he is. I suggested to Tom that he should consider using the tax refund to repay his debts. I told Tom I believe present life stage and circumstances should guide the use of tax refunds. First, however, it is important to know what the refund represents.
Why do you get a tax refund
Simply, you get a tax refund because insufficient or no taxes were deducted at source. That’s it! It is not a special gift from government. Rather, it’s the return of a tax free loan you made to the government. Where feasible, you should ensure relevant forms for tax deduction at source are up to date.
Some tax refunds are inevitable, such as when you donate funds to registered charities. Or when your circumstances change during the year and you do not complete the relevant forms. However, your tax refund is not a wonderful government gift. It’s settling what’s due to you based on your tax profile.
The opposite happens for small business owners. Normally, they must pay taxes when they file their returns because no taxes were deducted at source and they paid no instalments. Small business owners, don’t complain that you have to pay taxes when you file your return. Unlike others, the government financed you as it could not tax you at source like regular wage earners.
Three uses for the tax refund
- Repay consumer debt
- Start a capital fund or top up a capital fund
- Contribute to children education savings plan
Repay debt with your tax refund
If you have interest bearing debt other than a mortgage, repay as much as you can. When you repay these debts, move to item two.
Build a Capital Fund with your tax refund
This is your major purchases and emergency fund account. It will remove strain from your monthly budget. Set aside funds to buy your next car and major appliances for cash. Save about three month’s salaries for inevitable emergencies. Here is how it works.
When you are happy with the state of this fund, move to the next item.
Contribute to children education savings plan with tax refund
Post secondary education is expensive. I believe parents should work with their children to save. Many governments encourage savings and I suggest parents should maximize government grants to these accounts. In Canada the Registered Retirement Savings Plan is an attractive vehicle to help students save for their post secondary education.
After these three items are satisfied, if funds remain, reduce your mortgage. In this process, if the Lord leads funds elsewhere, that’s where you should direct them.
Consider your tax refund an interest free loan to the government. When they repay you, ideally, use it to speed up your journey to debt freedom.
Most of all, remember, everything belongs to God. Let Him guide your decisions.
© 2015, Michel A. Bell