What Should I Do With My Tax Refund?

Photo credit: Sam Galison, CC BY 2.0.

Last week, I shared all of the numbers related to my 2017 taxes — including my $3,611 refund from the federal government and my $67 refund from the state of Iowa.

Now I have to figure out what to do with this unexpected $3,678.

I have, like, 21 days until it arrives, so there’s no real urgency yet — and even after the money hits my checking account there’s still no rush, really. I could let it sit in my checking account for months.

The problem is that money doesn’t necessarily “sit” in a checking account. It gets spent, and I don’t want to spend this refund.

So I have to find another place to put it.

If I were following The Value of Debt in Building Wealth rules, it would all go into my savings account. The book suggests I store up 15 months’ worth of income before I start focusing on investments, and also advises me not to invest any cash that I anticipate needing in the next five years.

But I also recently got a copy of the newest edition of Your Money or Your Life, which argues that financial independence is all about (low-risk) investing. Savings accounts don’t provide a good enough return on your money, anymore — and neither do the treasury bonds Your Money or Your Life promoted back in 1992.

My current savings account balance is $5,146.42, which is lower than I’d like it to be but I did pull $5,500 out of it at the beginning of the year to fund my traditional IRA for 2017 (contributing to both my retirement and my tax refund). If I bumped my savings account balance up to $6,000, I’d have the equivalent of three months’ basic living expenses; if I took it to $7,000, that would represent three months’ living expenses plus a little money for extras.

Also, if you include my $3,000 checking account buffer, that would give me an even $10K saved — and I like round numbers.

I’m still going to be putting 5 percent of each freelance paycheck into savings between now and the day I receive my refund, so the actual numbers might be a little different, but for simplicity’s sake let’s assume that my savings balance hits $5,350 by the time my refunds arrive. This means I’d put $1,650 of the $3,678 refund into savings, leaving $2,028 for my individual brokerage account.

My current brokerage account balance is $619.82; since I’ll also continue putting 5 percent of each freelance paycheck into that account, I might have $820 in there by the time I get my refund. Adding $2,028 puts me a little short of the $3,000 needed to invest in some of Vanguard’s index funds, but it might be a smarter strategy to divide the refund money among my current Vanguard ETFs, which are split between domestic stocks, international stocks, and bonds. (If I put everything into a total stock market index fund and then the market tanks, I’ll be in a riskier position, especially if I plan on using my brokerage account as a secondary savings account to be accessed in true emergencies.)

So… great. A plan! I’ll diversify the refund money between savings and investing, and then diversify the investing money. Every risk gets mitigated!

But, as I turned this problem over in my head, I started asking myself why I was investing this money in the first place. The short answer is “to get more money, duh;” I don’t have a longer answer yet, and I don’t know if I should. Financial independence/early retirement is a fun idea but I don’t see it happening, mathematically, for a long time. Using the brokerage money as a down payment on one of those loft condos that would be nearly identical to my current apartment except bigger and I’d own it is another idea, but that’s still a few years out, both in terms of saving up the money and deciding to commit to Cedar Rapids. (I love it here, but it’s only been a few months. I should spend at least a full year in the city before deciding to buy property.)

So I’m going to invest just for the sake of investing, and hope it all works out in the end.

I’m going to continue funding my savings and brokerage account with each freelance paycheck, so both will continue to grow even after they get the refund boost. I’m also going to readjust the amount of money I put aside for taxes, because although I loved getting this refund, I’m also going to love dropping my “set aside for taxes” percentage by two points every paycheck and putting one more percentage point into savings and one more into investing.

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