I constantly fuss at my wife because she wants to have a fairly large ($3,000+) income tax return every year. Knowingly receiving a big tax refund each year is a big mistake that many workers make. I try to tell her that we are simply giving the federal government an interest free loan by doing that, but she simply doesn’t listen.
It is always a constant struggle to get my wife involved in financial planning for our family. She simply isn’t interested in money and finances and leaves that portion of our lives squarely on my shoulders for the most part. So, I got to thinking. Does it matter if we get a big tax return at the end of the year? Maybe it doesn’t matter after all.
A Big Tax Return Is Forced Savings
Like paying off a mortgage, overpaying the government in taxes every month is a way to force you into a type of savings plan. An income tax refund is simply a refund to taxes that you have overpaid throughout the year. Many people do not realize that our monthly FICA taxes that are withheld from our paychecks are simply an estimate of our yearly tax bill like a business paying its quarterly taxes. The question then becomes what do you do with that income tax money that your receive as a lump sum in the spring.
How Much Would You Really Earn
How much would you really earn from that tax money had you kept it in your pocket every month instead of paying it to the government? Would you have saved, invested, or paid down debt with it? Or, would you simply have absorbed it into your monthly budget?
We all have grandiose ideas of what we would do with an extra $100 per paycheck, but many times we see lifestyle creep instead of putting that money to a good use. If that is the case, you would probably do just as well holding off and receiving a big income tax refund in the spring instead.
The trick is to know yourself and what you are most inclined to do with the money. You have to be honest with yourself and the conventional wisdom that many financial planners and experts recommend may not be the best answer for your family.
What Actions Can You Take Now?
So, what are some of your options if you can’t make up your mind? Do you give the government an interest free loan, or do you take more home in your paycheck? One answer is simply to compromise. Maybe you do a little bit of both, and each of you are happen with the outcome. This doesn’t apply simply to two spouses who can’t make up their mind as to the best course of action.
You can solve that internal struggle by compromising with yourself as well. Another option is to understand your taxes and how changes you make will affect your income tax refunds. TurboTax is a great software program that I use to do my taxes and see how large of an income tax refund my wife and I will receive. Get your fastest refund possible – FREE with the TurboTax Federal Free Edition!
And, of course, you can always simply change your tax withholdings to keep more of your paycheck in your pocket every month.
In a way, receiving a big tax return is like receiving a pay raise or a year-end bonus. The only problem is that it is already your money that you overpaid the federal government. Who is better to care for that money throughout the year, you or Uncle Sam? Most financial experts recommend not giving the government an interest free loan with your hard earned money.
Instead, you should change your withholdings from your paycheck and take more money home with you every month. The problem is that that may not work for some American workers. There may be reasons for you to buck the classic way of thinking.
What do you do with your big tax return? How big is your income tax refund usually? Let me know what you think in the comment section. Thanks!
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My more disciplined friends make fun of me about this every year, but since I claim zero exemptions and actually withhold an extra $50/check, my tax returns are usually in the 2-3k range. I understand it’s a tax-free loan, but I know that I would not save up that chunk of money otherwise.
J,
I think that you’ve definitely hit the nail on the head. The most important thing is knowing yourself and understanding what your actions are most likely to be. That can help point you in the right direction if you know yourself and are honest about it.
I prefer getting a semi-large tax return. I know myself and I know that I would end up blowing that money on an extra few dinners out or movie rentals or something else that I wouldn’t have anything to show for.
Before I elected to have extra withheld from my paycheck, one year I ended up owing the government money. It wasn’t much, but having a bit extra taken out up front makes me not have to worry throughout the year of whether I will owe the government or not.
So basically, for me it represents forced savings and peace of mind.
In recent years, I’ve become OK with a tax refund of some size. Hank, I used to be quite dogmatic and tried to minimize the “free loan” to the government. But recently, with interest rates so low, even a huge $5,000 loan/refund is only worth about $25 for the year (@ 1%). Thus, the effort has been outweighed. Plus starting in 2012, the only way to get a paper-based I-bond is via a tax return, so there are upsides even.