Is your family anticipating a tax refund this year? If so, what will you do with that “found” money?
- We’re going on vacation!
- Buying a new refrigerator
- Paying off a credit card bill
- Stashing it in a savings account
Last year, the IRS issued nearly 126 million refunds, accounting for about 74% of all filers, and the average check was $2,549. So, what DID people do with all that money? The answer might surprise you.
According to a survey from NORC at the University of Chicago, only 13% took option A (spend it on something fun). Another 13% chose option B (a major purchase.) About 35% planned to use it for option C (paying bills). Meanwhile, 46% were looking long-term and planned to save it in an account. (Note, people could choose more than one response.)
How Can You Maximize Your Tax Refund?
While it’s a highly personal decision whether to spend or save your tax refund, some financial experts suggest you consider the 80/20 rule: that is, put 80% toward a long-term goal (like saving for college) and 20% toward something more immediate you can enjoy right now. Using last year’s average tax refund, that could mean roughly $500 for now, and $2,000 for later. When applied over several years, those amounts can really add up!
But not all savings accounts are created equal. If you’re saving up for college, your best bet may be to stash those savings in a 529 plan. Why?
In three words: “Taxes, taxes, taxes,” says Tim Gorrell, executive director of the Ohio Tuition Trust Authority, who manages the overall operations of Ohio’s 529 Plan, College Advantage. “When you’re placing funds in a 529 plan, you’re investing after-tax dollars with that contribution, and it grows tax free. And, when you withdraw it, there’s no tax consequence.”
Finding a tax-advantaged way to use your tax refund sounds like a pretty savvy move. But how do you know how much you’ll actually need to save?
There’s a Tool for That
Gorrell suggests using a handy interactive tool on the CollegeAdvantage website called the College Savings Planner. “You can use this tool to help you project out how your savings will add up. Just plug in your child’s age, your monthly or annual plan contribution, and your current savings, and it will show you how long it will take cover the desired percentage of tuition, fees, room and board at any college you select.”
You can adjust the amounts to see how your savings will grow over time. There’s also a questionnaire to help you gauge your risk tolerance, and a tax benefit calculator to compare saving in a 529 account to saving in other types of accounts so you can evaluate the pros and cons of each option.
Of course, you should consult with a qualified tax professional to make sure you’re choosing the options that will best achieve your goals.
But What If My Kid Doesn’t Go to College?
Parents sometimes worry about “locking in” funds to a 529 plan in case their son or daughter decides not to attend. But in truth, 529 funds are much more flexible than many realize.
For example, funds can easily be transferred to another child’s account, or even used by a parent who goes back to school for a master’s degree.
“The money also can be withdrawn to pay for community college, trade school, technical school, certificate programs and apprenticeships—basically any education entity recognized by the federal government,” Gorrell shares. 529 funds can even be used for non-tuition expenses, like room and board, textbooks, computer equipment, or tools that must be purchased as part of an apprentice program.
And a recent change added even more flexibility to how the funds can be used. “You can now use up to $10,000 from your 529 plan to repay student loans, so even if you got started late, you can help pay off some of the cost of your student’s education after they graduate,” says Gorrell.
So, if you’re looking for a way to grow the college nest egg, consider making your tax refund part of that strategy. After all, some day that nest will be empty!