Large Income Tax Refunds are Not Necessarily A Good Thing

Are you getting a fat tax return this year? If you are, you’re not alone. According to the IRS, the average refund in 2007 for individuals and joint filers was $2,345 (that’s almost $200 overpaid in taxes each month)!

What has always surprised me is how proud some people are when announcing how large their tax return is going to be!

“Oh man, I’m killing it this year! I’m getting back over 6 grand!”

or

“I guess Uncle Sam decided to show me a little “love” this year! My tax return is going to be $8,000 this year!”

Its always nice to be surprised by a larger than expected tax return, but if you are consistently getting returns over two or three thousand dollars, you really need to consider adjusting your tax withholdings!

Although you will get the money back eventually, the money earns no interest for you while sitting in Uncle Sam’s bank account.

You would be much better off had you instead applied this money to your interest bearing debt accounts.

How to Determine How Much Money to Withhold From Your Paycheck for Taxes:

Fortunately, the IRS makes it very easy to calculate how much money you should have withheld from your paycheck each pay period.

All you need to do is complete the Tax Witholding Calculator and fill out a new W-4 Form for your employer.   That’s it, your company’s payroll department will make the necessary adjustments!

While the W-4 Form offers some limited guidance on how many “exemptions” you need to claim, the withholdings calculator uses specific information entered by you based on your projected income, tax deductions, and personal information.

Personally, I understand the argument some people have about having that extra “cushion” come each April.  Many people do in fact consider their tax return as their emergency fund. 

My strategy is to shoot for a refund of around $1000.  This gives me a cushion if my income fluctuates a little bit without exposing me to too many lost opportunites by not investing the money elsewhere.

Too Much Debt?  Download our free Trees Full of Money Debt Snowball Calculator and see how quickly you can pay off your debt.

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