Ask Jill:

What to do with a tax refund?

A monthly Q&A with Jill Schlesinger, CFP®, host of the Jill on Money podcast

Disclaimer: Jill Schlesinger is an ambassador for Marcus by Goldman Sachs and has received financial compensation. However, all thoughts and opinions are hers.

Marcus by Goldman Sachs is the sponsor of the Jill on Money podcast, featuring Jill Schlesinger, a Certified Financial Planner, CBS News Business Analyst and author of the new book “The Dumb Things Smart People Do With Their Money”. Listen to her podcast on iTunes and Stitcher.

The Scenario:

A single, mid-20s professional who has $1,000 in credit card debt and is interested in starting a retirement plan just received a tax refund of $4,000.

The Question:

What should this person do with the $4,000 refund?

Jill’s Take:

I know lots of people like this – people who relish the thought of a tax refund, but let’s boil this down to the bottom line: you just gave Uncle Sam an interest-free loan for a year. You may be patriotic, but on behalf of all taxpayers, let me thank you because really, this is just too, too kind!

I hate tax refunds. Many say that they will use their refunds for lofty purposes, but just as often, they blow their money on stuff they don’t need. Don’t get me wrong, I like stuff too (see my spending line item on my adorable Norwich terriers), but your friends are squandering a great opportunity.

Remember, a refund occurs because you withheld too much money from pay, not because you got a tax cut or because your tax preparer is some sort of genius. Simply put, a refund is just the difference between the amount you withheld and the amount you actually owe.

So the first thing a person in this situation should do is to adjust their withholding to create more cash flow throughout the year. To help out, the IRS has a nifty withholding calculator. Remember, the goal is to not owe – or be entitled to – a penny…flat, at least for tax purposes, is the ideal.

With the rest, establish an emergency reserve fund, which will hold six to 12 months of living expenses in a high-yield savings account.

As far as the question, it’d be wise to direct a portion of the refund towards paying down that credit card balance. With the rest, establish an emergency reserve fund, which will hold six to 12 months of living expenses in a high-yield savings account. That means it should continue to be added to, but here’s the good news: the change to the 2019 withholding will free up extra money for that very purpose.

With the extra dough, enroll in the company 401(k), and contribute at least up to the company's match (assuming the company matches employee contributions) – which should be affordable because of a fatter pay check. If the employer offers a Roth 401(k), I would look into that option. The difference between a Roth and a traditional IRA is all about taxation:

In a traditional account, you get to take a tax benefit today. The money in the account grows without taxation, but later in retirement, taxes will need to be repaid on the amount withdrawn. With a Roth, there’s no deduction today, but there is NO tax due when you access the funds later. I like the Roth option in this scenario, because tax rates are historically low right now.

After enrolling in the retirement plan, it’s a good idea to establish an automatic deposit to round out that awesome and sexy emergency reserve fund.

This article is for informational purposes only and is not a substitute for individualized professional advice. Articles on this site were commissioned and approved by Marcus by Goldman Sachs®, but may not reflect the institutional opinions of Goldman Sachs Group, Inc., Goldman Sachs Bank USA or any of their affiliates, subsidiaries or divisions.