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Five Mistakes to Avoid with Tax Refunds

Tax time: That remarkably peculiar time of year when ordinarily wise people begin to make really unwise financial decisions. The average tax refund for 2014 could be a little more than $3,000, which for many families is the largest cash payment they receive all year, making them vulnerable to mistakes if they don’t plan accordingly.

Here are the top five tax refund “don’ts” to avoid this year!

#1 – Don’t act like the refund is FREE money. The operative word in the term “tax refund” is REFUND! Common synonyms for refund are “repayment,” “reimbursement” and simply, “money back.” This means that tax refunds are not “free” money! The government is not giving us a bonus every year to thank us for being an American. This is money you’ve allowed them to “borrow” all year long. And now, unlike many friends or family members, they’re actually paying you back. While you were patriotically overpaying the government; you could have been doing a dozen other things with the money YOU worked for, allowing your money to actually work for you.

#2 – Don’t spend it outside your budget. The mindset that tax refunds are free money typically leads people who ordinarily use a budget to leave refund money off their money management radar. Typically, by the time you think about budgeting, you’re down to your last few hundred dollars and want to “be responsible” with it. Tax money should be approached the same way you would approach your paychecks; after all, it’s nothing more than the money you worked for all year long! Even if you apply slightly lopsided percentages to how you disperse the money, you should still use some type of logical system. Blowing it on insignificant, everyday purchases is not the way to go.

#3 – Don’t pay off too much debt. I know you’re thinking there is no such thing as “paying off too much debt”, but in reality there is. If you use your refund to pay off debt but don’t have an emergency or opportunity fund in place, you’re not really making progress. Let’s say you use the entire refund to pay off a credit card balance in April, but in May you have an emergency. Because you have no savings, what are you going to do? That’s right! You’re going to put that emergency expense on your credit card. By June, you can end up right back in the scenario you were in before the refund came.

Instead, strategically pay down your debt. Put a large chunk toward paying it down if you can but try to leave at least $1,000 aside in an account that you can easily access if necessary for emergencies.

#4 – Don’t save all the money. This is simply the reverse of #3. Don’t save the entire refund when you have high interest rate credit cards or even a small student loan balance that can be wiped out. Again, you should have a healthy balance in your personal finance efforts that allows you to save money and pay off debt simultaneously and systematically.

#5 – Don’t create ongoing debt with major purchases. Commonly, a feeling of prosperity follows a major infusion of cash and often forces, I mean literally strong arms, people into putting money down on a new apartment, car, furniture, etc. Here’s the thing to remember: After that down payment, you’re still responsible for the pesky monthly payments that linger long after the initial investment. Even though you’re feeling good right now, remember that April 15 only comes around once a year. Make sure if you have plans on using your refund in this way that your monthly budget can handle the payments you are signing up for. If not, the “blessing” of tax money can quickly become a nightmare. Use the refund to abolish your bills, not create new ones.

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