Putting your tax refund to work

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Published: March 8,2013

Tags: Ike Trotter, Roth IRA, taxes, TD Ameritrade

taxesAccording to a recent TD Ameritrade poll, 47 percent of U.S. taxpayers expect a refund this year. The important question to ask is: What do they plan to do with the money?

The answers may surprise you. While 15 percent of the survey respondents indicated they would spend their refunds on discretionary purchases, 47 percent said they would save the money and 44 percent indicated they would use some or all of it to whittle away some debt. Just 15 percent said they would invest it, and only 6 percent said they would direct it to a charity.

As a general rule, putting your refund into your savings or checking account makes good sense — but with the interest rates most bank accounts earn today, you may be wondering about alternatives. Here are some other options to consider.

Your refund could let you put more money into your workplace retirement plan. Does your employer offer to match your retirement plan contributions? If so, you might want to consider contacting your plan administrator or human resources officer and increasing your elective salary deferrals into the retirement plan this year by the same amount as the refund. If you deposit those refund dollars in a checking or savings account, you can offset the increase in the amount of salary you defer by distributing the refund dollars from the bank account to yourself. Hopefully, that checking or savings account generates at least some interest on those deposited funds as well.

You could increase your 2012 (or 2013) IRA contribution. If you didn’t make the maximum allowable IRA contribution for 2012 – $5,000 across all of your traditional and Roth IRAs, $6,000 for those 50 or older – you could boost your contribution.2

Assuming you haven’t sent your 2012 federal return to the IRS yet, you can redo your taxes to show your 2012 IRA contribution(s) raised by the amount of the refund you will be getting. As the deadline for 2012 contributions is April 15, 2013, you could either make your additional 2012 IRA contribution using your refund (if you file early and get your refund back nice and early) or with equivalent cash from your savings or checking account, knowing that you will then use the refund to reimburse yourself. Whatever way you choose, please make sure that you earmark your additional contribution for the year 2012; otherwise, the IRA custodian will interpret it as a contribution for this year. (If you’ve already sent your 2012 taxes to the IRS, you could still pull this off with the help of a 1040X form to amend your return). Still another option would be to use the refund you get from your 2012 taxes to increase your 2013 IRA contribution.

You could instruct the IRS to purchase Series I Savings Bonds. Starting in 2011, the IRS gave taxpayers who received refunds a third option: in addition to a direct deposit or a check in the mail, their refunds could be redirected into U.S. Series I Savings Bonds up to a maximum amount of $5,000.

You could use the dollars for home improvement. If you want to go green (or even greener) and you have the time, initiative and patience to tackle an energy-efficient home improvement project, here is another option. You could get as much as a $500 tax credit for your effort.2

You could make an additional mortgage payment or pay property tax. Assuming your home isn’t underwater, you may want to use the refund dollars to reduce mortgage principal. Also, mortgage companies often keep a few thousand bucks in escrow to pay various tax and insurance expenses linked to your home, and some of them will actually let a borrower’s savings account stand in for their escrow account. If they permit, you could make such payments out of an account of your own while it earns a (tiny) bit of interest.2

Lastly, think about avoiding a refund in 2013. In figurative terms, your federal tax refund amounts to an interest-free loan to Uncle Sam. If you don’t particularly want to make that “loan” again, see if your W-4 can be tweaked to decrease that possibility this year.

This Month’s Parting Shot: We have all become very familiar with our country’s looming national debt. Here’s a scary statistic; this debt increases by $37,800 per second. What clearer evidence that the financial clock is ticking away. The greater question is; what will it take to turn things around?

Ike S. Trotter, CLU, ChFC, is a financial advisor in Greenville. Securities and investment advisory services provided through Woodbury Financial Services Inc., Member: FINRA, SIPC and Registered Investment Advisor, P.O. Box 64284, St. Paul, MN 55164. Tel: 800.800-2638. IKE TROTTER AGENCY, LLC, and Woodbury Financial Services are not affiliated entities. Information and opinions expressed are those of the author and not necessarily those of Woodbury Financial Services Inc.

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