Getting a tax refund is the best. Mostly because after filing taxes you block them from your brain, so when you find out you’re getting money back it’s a wicked surprise. And that surprise is usually followed by “what totally unnecessary thing should I spend this money on?” No judgement, really, because who doesn’t like spending money they didn’t think they had? But now that we’re getting further and further into adulthood (bummer, we know), it’s also a good idea to start thinking about the completely responsible ways you can deal with your tax refund. Ways that aren’t pretty shoes or a shopping spree at Sephora. Ways that seriously help you out financially.
We tapped Cynthia Kett, a principal with advice-only firm Stewart & Kett Financial Advisors Inc., to help us out. She gave us five solid ways to be responsible with our refund. So here they are, in order of priority.
Pay down non-deductible debt
This means credit card debt people. It also means things like student loans and mortgage payments, but start with paying down your credit card debt. Chances are the interest rate on your credit card is higher than your student debt or your mortgage.
Contribute to your savings plan
“Don’t fritter away the refund—use it to achieve whichever financial or life goals are the most important to you,” says Kett. This means not breaking up your refund over a bunch of different savings or activities. Put the bulk of it away into whatever savings is most important to you.
If saving for the short term, invest in low-risk opportunities
Talk to a financial advisor about investing in things like high-interest savings plans and GICs. You’ll be able to protect whatever money you put in, but you’ll still make a bit of money too. The best part is you have access to the funds and can withdraw easily.
If saving for the medium term (three to five years), contribute to your TFSA
If you have room to contribute to your TFSA (tax-free savings account), you should definitely do this. The great thing about having a TFSA is you can withdraw at any time, tax-free, and you can recontribute anything you do withdraw as early as the following year.
If you’re already thinking of retirement, put money into an RRSP
“Investment income earned within an RRSP is tax-free until it’s withdrawn,” says Kett. Which means if you contribute when your marginal tax rate is high, and withdraw when your marginal tax rate is low you can realize a real tax savings. (Marginal tax rate is the percentage applied to your income for the tax bracket that you qualify for.) But remember, RRSPs can’t be re-contributed at a later date (unlike TFSAs), and can only be withdrawn when you retire, or to put towards a down payment as a first time homebuyer.
Bonus: What to consider if you owe money
“People who owe money often assume that if they can make the minimum payments on their debt, they’ll be okay,” says Kett, “But they’re only fooling themselves.” Remember that any debt you carry forward attract compound interest—which usually at a very high rate. Which means that you dig yourself deeper and deeper into debt.
Kett’s tip? Match the type of borrowing with the type of expenditure. This means, consider that short-term expenses (this is probably most of the stuff you put on your credit card) should be paid off in full in a short time span. Only think about debt long-term if what you’re spending the money on has long-term benefits (your education, buying a home, getting a car, etc.).