So, You’re Getting a Tax Refund … Awesome or Maybe Not

About 70% of U.S. taxpayers are due a refund this year. The average refund amount last year was $3,125. Wow!

 It’s nice to see a tax refund show up in your bank account, especially if it’s a sizable one. Your tax refund can underwrite a summer vacation, a week’s worth of groceries or any number of investments, depending on your personal circumstances. But the effectiveness of our decision may have more to do with how we think than how much we earn. People in very different financial situations often have one thing in common: they base their decisions on how to use a tax refund on the misperception that it’s a gift from Uncle Sam.

The Gambler’s mindset: the ante is separate from the earnings. The first $1000 is mine. The second $1000 is Vegas’s and I can do all kinds of things with it because that was never my money in the first place. For many, a tax refund is no different. However, it’s neither a gift or a poker pot. It is money you earned during the previous year. A refund really is part of your earnings.

Consider this … a big refund means you are giving the IRS more money during the year than you have to. Also when the IRS sends you a refund, it doesn’t come to you with interest. What?!

On the other hand, if you owe the IRS at tax time, it means you’re not having enough taxes withheld from your pay throughout the year. While it may be nice to have the extra money every pay period, you’ll have to write a check to the IRS after paying employment taxes all year.

Ideally, you want your tax bill to come out to $0, or very close to it. If you’re paying the IRS too little or too much throughout the year, adjust your W4 with your employer.

Here’s a link to the up-to-date W4 form

If you’d like to adjust your withholding to get a bigger paycheck and smaller tax refund use the IRS tax withholding estimator to figure out how many exemptions to claim.