Only 4% Plan To Invest Their Tax Refunds: Why It’s the Right Money Move
Written by
John Csiszar
Edited by
Amber Barkley
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Many Americans look forward to the annual ritual of receiving a tax refund every spring. In fact, knowing that you might get a sizable check out of the process is one of the few things that can make filing your taxes an enjoyable experience. But there’s a lot of controversy around how Americans use their tax refunds — and if they should even be looking forward to them to begin with.
A recent GOBankingRates survey, for example, showed that just 4% of respondents planned to invest their tax refunds, and many financial advisors suggest that drawing a big refund check is a bad financial move. Here’s a look at the implications of the survey, along with how your tax planning strategy can actually help you build wealth.
What Are Americans Doing With Their Tax Refunds?
According to the GOBankingRates survey, not many Americans are using their tax refunds to invest. The most popular choices were “put it in savings” at 25% and “pay off debt” at 15%. However, this still means that more than 41% of respondents were doing none of these things, suggesting they were potentially simply spending their refunds — if they expect to get one, at all.
How Investing Your Tax Refund Can Help You Build Long-Term Wealth
Americans who fail to invest their tax refunds can be missing out on a big financial opportunity. While paying down debt or using the money to pay bills can also make good financial sense, look at how the math on investing your tax refund can really make a difference over the long run.
Imagine you start getting a $2,753 tax refund — which was the average amount in 2023 — every year starting at age 25. If you were to invest that money at a 10% annual return, by the time you were 65, you’d have over $1.3 million. Even at a 5% annual return, you’d have close to $350,000.
In other words, even if you’re falling short in your 401(k) or IRA savings, just by investing your annual tax refund, you’d have a big head start on your nest egg — and perhaps even enough to fund it entirely.
While it may be tempting to see a tax refund as “free money” that should be spent and enjoyed, try to think of it instead as bonus money you can use to boost your retirement lifestyle. As your tax refund shouldn’t be part of your monthly budget, shuffling it towards your investments shouldn’t be a financial hardship.
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Does It Make Good Financial Sense To Always Get a Tax Refund?
At first glance, getting a big check from the federal government every year seems like a pretty sweet deal. After all, who wouldn’t want a few extra thousand dollars in their bank account every springtime? But if you understand what a tax refund really is, you might change your thinking.
Rather than being some type of gift from the IRS, a tax refund is simply the return of taxes you have overpaid. In other words, the IRS is simply “refunding” — hence the name — your own money to you. Digging a little deeper, that means that your tax refund is actually the return of a tax-free loan you’ve given to the IRS over the course of the prior year. When you overpay your taxes, the federal government gets to use that money all year for its own purposes, without paying you a cent of interest, until it returns it to you when you file your tax return.
For this reason, most experts advise that you actually try to owe a little bit in taxes every year when you file your return. This means that you’ve kept that extra money in your pocket all year instead of in the hands of the IRS.
How Tweaking Your Tax Refund Strategy Can Boost Your Nest Egg
While investing your tax refund can be a great retirement savings strategy, an even better one is to not get a refund at all. By paying a little less in taxes throughout the year, you’ll have control of that extra money and can invest it sooner and more regularly each year.
For example, say you owe $500 each month in taxes, but you’ve been paying $700. If you get that $200 per month back in the form of a $2,400 refund, investing it at the end of every year at a 7% return for 40 years will net you about $479,000.
But if you instead invest that $200 at the start of every month at the same rate, you’d have closer to $497,000. Plus, you won’t be letting the IRS use your money for free all year.
The Bottom Line
Investing your tax refund can be an easy way to generate extra money for retirement. Over a long enough time horizon, and with sufficient investment returns, you could build a six- or seven-digit nest egg. While spending your refund might give you some short-term satisfaction, investing it can create a potentially life-changing sum of money.
GOBankingRates surveyed 1,005 Americans aged 18 and older from across the country between Jan. 23 and Jan. 26, 2024, asking fourteen different questions: (1) How do you plan on filing your taxes for this year?; (2) When do you expect to file your taxes this year?; (3) How much do you expect to receive in a tax refund?; (4) What do you plan to do with your refund?; (5) Do you feel confident you are receiving all the deductions you feel qualified for?; (6) Do you believe your tax dollars are being spent effectively?; (7) Do you believe you are paying too much, too little, or a fair share in taxes?; (8) Have you ever been audited before?; (9) Who will/would use your tax dollars the best?; (10) How much is the standard deduction for a single filer (and married filers) in 2024?; (11) What concerns you the most about Tax Day?; (12) Do you expect your tax refund this year to be more or less than last year?; (13) What do you understand the least about your taxes?; and (14) What would you rather be doing than your taxes? (Select all that apply). GOBankingRates used PureSpectrum’s survey platform to conduct the poll.
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