Are you anticipating a tax refund this year? Getting your hands on a lump sum from Uncle Sam could be the perfect opportunity to get ahead financially.
Here are some of the best ways to use your tax refund this year:
1. Get rid of high-interest student loan debt
Paying off four-, five- or six-figures of education debt can feel like an impossible task, especially when you’re trying to tackle debt that has a high-interest rate.
Thankfully, there are a few strategies and tools that can help you tackle high-interest debt faster. One strategy is putting any extra cash you receive from a tax refund, bonus or commission towards your high-interest student loan debt. Aggressively reducing your debt balance can give you a bit of relief from accruing interest.
Another option to consider is student loan refinancing. Refinancing is when you take out a new loan with better terms to pay off your existing loans. The benefit of a refinance is it can lower your interest rate, monthly payment and overall costs. Many lenders that offer student loan refinances let you prequalify without a hard inquiry so you can compare products without it affecting your credit.
A factor to keep in mind: Some of the benefits you get from federal student loans will no longer apply if you refinance your loans with a private lender. Federal student loans come with certain protections like deferment, forbearance and student loan forgiveness.
If you’re considering a job in public service or you’re having trouble keeping up with payments, be sure you understand the advantages of keeping your federal students loans before refinancing with a private lender. Federal student loan perks like income-based repayment plans are probably something you want to keep when facing financial hardship.
2. Put a dent in high-interest credit cards
Balances on high-interest credit cards can also be an annoying thorn in your side. A high-interest rate can make paying off credit card debt difficult because your payments get applied to interest charges before the principal.
Paying off all or some of your high-interest credit card balances with your tax refund can put you well on your way to meeting a debt repayment goal. If your tax refund isn't enough to pay off high-interest debt, there’s a solution for that too.
It’s called a balance transfer.
A balance transfer is a way to refinance credit card debt. You take out a new card that is offering a low-interest or 0% APR introductory period. You use the new card to pay off the balance on the existing card. Then you pay off as much debt as possible during the zero-to-low interest window.
Many credit card issuers offer balance transfer cards to new customers. Shop around and compare cards to find the best deal for a balance transfer. Introductory periods typically range from six to 18 months.
Some balance transfer cards have no balance transfer fee while others may charge 3% to 5% of the transferred balance. Watch out for fees. For a balance transfer to be worthwhile, you need to save more in interest than you pay in fees.
3. Save money for a sunny day
You should have at least several months worth of living expenses set aside in case a surprise expense pops up or you lose a source of income.
The financial struggle many government workers faced during the government shutdown brings to light the importance of having an emergency fund and a rainy day fund. It may be a good idea to use some of your tax refund for emergency savings if your savings account needs some love.
With that said, you should also consider contributing to a sunny day fund for things you enjoy. Perhaps you want to travel or redecorate this year. Your tax refund could help you reach savings goals for other areas in your life besides the “responsible” stuff.
Money is a tool that helps you live your best life. Think about putting away some cash, even if it’s a small sum, for experiences, events and commodities that are important to you.
4. Improve your credit
A tax refund can even help you better your credit. Here's how:
- The two most important factors that impact your credit score are your payment history and amounts owed.
- The amounts owed factor takes into account how much debt you have in total. Part of the amounts owed component is your credit utilization.
Credit utilization is a comparison of your revolving credit balances to your revolving credit limits. Using a high percentage of your credit limits is a sign that you may be cash strapped and it can negatively impact your credit.
To calculate your credit utilization, divide the sum of your credit card balances by the sum of your credit limits and multiple by 100. Paying off some of your revolving debt with your tax refund can lower your credit utilization. A lower credit utilization can improve your score. Shoot for a maximum credit utilization of 30%, but even lower is better.
Another step to take to improve your credit is reviewing your credit reports and making a note of any incomplete or inaccurate negative records. You can get a free copy of your credit report once per year at AnnualCreditReport.com. Disputing negative records and having them removed can also give your credit a boost.
Come up with your plan
Decide on what you will do with the money before the tax refund hits your account. This will lower the likelihood that you end up spending all of it on happy hour and takeout.
Working towards money goals is a process that may take some time so don’t get discouraged. Putting your tax refund towards your goals is one way to get a head start this year.
Bio: Taylor K. Gordon is a freelance writer who contributes to MagnifyMoney. She is a Certified Financial Education Instructor and founder of Tay Talks Money, a money management blog that helps millennials, free-spirits, and creatives master their money.