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What will you do with your tax refund?

- ForbesWasik

If you’ve filed your taxes — and waiting or received your tax refund — the great challenge begins: Whether to save or spend that modest windfall.

Like most people, your eyes probably light up with the possibly of getting that flat-screen TV, coveted article of clothing or even a little vacation. Personally, I like to spend my “found” money on musical instruments.

I know this is incredibly boring, but that Treasury check can do you the most amount of good if you don’t spend it. You’ll have to embrace that part of your brain that treasures long-term and prudent thinking. Sigh.

Nearly half of U.S. taxpayers expect a refund this year, according to Bankrate.com. “The percentage is highest among millennials (66%) and drops considerably with age; 49% of Gen Xers expect a refund, as do 34% of Baby Boomers and 26% of the Silent Generation.”

 

Surprisingly, most of those surveyed are at least thinking about doing the right thing with their refunds. That means not blowing it on an impulse purchase.

“Just 6% of U.S. adults who expect to receive a tax refund this year plan to splurge on something such as a vacation or shopping spree,” Bankrate found. “The most popular uses for the money are much more practical: save or invest it (34%), spend it on necessities such as food or utility bills (29%) and pay down debt (27%).”

Now for the do-the-right thing stuff. I always like the idea of saving over spending, especially when it means filling in some holes in your overall financial plan. Here are four essential items:

– Emergency Funds. Most Americans come up woefully short on this rainy day stash. The general rule of thumb is to cover at least three months’ worth of monthly expenses in case you’re unemployed.

But a better way of looking at the right-sized emergency fund is to cover all of your temporary expenses plus out-of-pocket costs for home, health and auto insurance as well. Remember that most people have deductibles on policies. This is the amount of money you need to cover something if you file a claim.

I’d also recommend that self-employed people have six months of emergency savings. And if you’re a homeowner, you need to save for appliance replacement and home repairs.

– Retirement. Have you fully funded your retirement plans? Remember you can also fund a conventional or Roth IRA. This will supplement your 401(k) savings. The Roth is a good back-up because withdrawals are tax free (after age 59 1/2).

The annual limit for both kinds of IRAs is $5,500. If you’re over 50, the max is $6,500.

– Debts. Pay down your credit cards first. Remember you can’t deduct that kind of debt from your taxes, so pay it off. All of the finance charges you’re paying are going into a hole.

– Special Purpose Fund. While some people don’t feel the need to do this, others like the idea that money is earmarked for special things like a big vacation, appliance, vehicle or other large expenditure.

 

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