Why Big Tax Refunds Are Bad News

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This photo, “Money”, is copyright (c) 2011 401(K) 2012 and made available under an Attribution-ShareAlike 2.0 Generic (CC BY-SA 2.0) license

Who doesn’t love getting a nice, big tax refund? Me, that’s for sure. It may sound unconventional, but here are a few reasons why:

You’re letting the government hold your money all year

Simply put, you get a refund when you pay in more taxes (i.e., through withholding or estimated tax payments) than you owe. If, after filing, you have a big refund, that means you gave the government more than they needed throughout the course of the year and they owe it back to you.

Do you think the government pays you interest on that money owed to you? I’ll give you one guess…

If you guessed yes, I’ll give you one more guess.

The government would never give you an interest-free loan, so why should you give one to them? You’d be better off if you kept that excess money throughout the year and put it to good use.

This photo, “Raining Money”, is copyright (c) 2006 methodshop .com and made available under an Attribution-ShareAlike 2.0 Generic (CC BY-SA 2.0) license

Your paycheck is less than it should be

If you received a big tax refund due to excess withholding, you’re receiving a lower net paycheck than you should be each pay period. As I’m sure you’re already painfully aware, federal and possibly state and city (depending on where you live) withholdings are deducted from your gross pay.

You can fill out a new Form W-4 claiming a higher number of allowances – this will result in lower withholding and a higher net paycheck, giving you use of the refund money you would receive otherwise throughout the whole year.

A little extra money in your pocket each paycheck would help you out a lot more than letting the government hang on to it.

You may spend your big refund check unnecessarily

When you receive a healthy tax refund check in the mail, it’s basically the adult version of the tooth fairy leaving money under your pillow; it’s very easy to use that money to treat yourself to a vacation, revamp your wardrobe, or spend it however you wish…

This photo, “ Throwing Money Away”, is copyright (c) 2012 Tax Credits and made available under an Attribution 2.0 Generic (CC BY 2.0) license

Psychologically, it’s understandable why people view tax refunds as “found money”, but it’s not! If you take one thing from this post, let it be this: your tax refund is not a gift from the government, it’s your own money that you should have had all year being given back to you…without interest. Doesn’t sound so appealing when you put it that way, right?

One little piece of advice…

If you receive a big tax refund every year and have been for a while, you may fall into the bad habit of planning and budgeting with your tax refund in mind. I can’t stress this enough – don’t depend on your tax refund.

If you’re the type of person who would still prefer a big tax refund because you like receiving a big check in the mail after filing, that’s totally fine. Keep in mind, however, that circumstances change and laws update every year; you may not end up with the outcome you’re hoping for, so just be prepared for that possibility.

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Aiola CPA, PLLC is a 100% virtual CPA firm, specializing in tax planning and preparation for real estate investors. See more at www.aiolacpa.com


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