Advice for spending your tax refund -- which could be more than $2,000 this year -- is a lot like advice for using home equity money.
Often the best way for home owners to spend a small windfall is to invest it in capital improvements or investments that provide a return on your money -- home improvements, education for the kids, perhaps financing a new business. Paying down or paying off high interest rate debt and socking it away for emergencies aren't bad idea's either.
In any event, the soft economy means the refund you'll get this year could be sizable.
As of March 21, 2003, taxpayers' refunds on 2002 tax returns, averaged $2,400 for direct deposit refunds and $2,027 for certified refunds, delivered by mail or otherwise. The average for direct deposit refunds rose 0.6 percent while the certified refund average was up 2.4 percent compared to the same filing period last year, according to the Internal Revenue Service.
Refunds are up because some sources of income are down.
"This year, we're seeing huge refunds because interest and dividend income has dropped dramatically from 200; there are virtually no capital gains and almost everyone has the $3,000 maximum allowable capital loss; rental incomes are down for landlords; and corporate bonuses are zilch," said certified public accountant Leonard W. Williams of Sunnyvale, CA.
But before you run out to stop that hole from burning in your pocket, you should be aware that you shouldn't be getting a refund.
Tax professionals advise you to estimate your income as near to exact as possible so that you can prepay the right amount of taxes from self-employed income or set your W-4 withholding with your employer, in both cases to avoid a refund. At any time of the year, when you are aware of changes in your income, you can make chances to pay the appropriate tax.
That's because a tax refund amounts to an interest-free loan you've made to the government as it holds your accumulating refund all year. The IRS has already doled out nearly $200 billion in refunds from the 2002 tax year. That's some loan.
Given your refund is money you shouldn't now have, spend it wisely.
"Pay off any credit card balances, since they always charge the highest interest rates in town," Williams said.
A Los Gatos, CA couple is using most of their windfall to pay property taxes, as many taxpayers do. They'll use what's left to fix up a bathroom.
"We are getting almost $7,500 back, $6,000 goes back into paying the property taxes and the rest is renovating our bathroom down to the studs. We figure this is bang for the buck when it's time to resell since nothing has been done on any sizable basis since 1946 when the house was originally built," said Julie Ziemelis, who along with her husband Eric, is tossing in some sweat equity to get the job done with a refund that wouldn't be enough to hire contractors.
The average tax refund is sufficient to pay for other improvements with the same sweat equity approach.
"I get my supplies at Home Depot and do the work myself. I also have access to developers' deals on closeout appliances. I did a cabinet reface for under $150 and added a center kitchen workstation with an overhead pan rack for $500. Of course, not everyone has the time, talent or inclination to putter," says Stephen Richard Levine, of Franzel Mortgage Consultants in Westlake Village, CA.
Painting, deferred maintenance and cosmetic upgrades can work wonders, especially when it's time to sell.
"If you are less than two years from selling, improving curb appeal allows you to leverage each dollar into an increased multiple of the amount spent. If I spend $300 for a little paint, clean-up the trim, do some basic gardening, it might be worth as much as $1,000 to $1,500 more in the sales price," he said.
Levine also suggested using several hundred dollars in refund funds to pay a professional appraiser for documentation to get your lender to remove private mortgage insurance. Suggesting to the lender you'll refinance if it doesn't remove PMI -- especially after the appraisal proves PMI removal is warranted -- doesn't cost a cent.
"The remaining money could be used to adjust your homeowners insurance coverage to provide additional coverage or it could be used to pay down some of your principal debt," Levine said.
Studies show, most home owners do under estimate the replacement cost of their homes to save on the premium.
Richard Calhoun, a mortgage broker-owner of Creekside Realty in San Jose, CA says given the average refund is $2,000 or so, many refunds are much higher and others much lower.
At the lower end, sellers would be wise, in buyers' markets like San Jose, to hire a stager to put the home in its best light.
"There are stagers that work with any dollar amount and you get multiple times the amount you spent back in sales price and a faster sale," Calhoun said.
Those with larger refunds can use the extra cash to splurge for improvements they can enjoy now and when it's time to sell.
"Buy a hot tub. You enjoy it now and get dollar for dollar at time of sale," Calhoun said.