We know we have to spend less than we earn. We know that credit card debt, with its double digit interest rates, is bad for our long term success. We know that saving for retirement is important and that compound interest is our friend.
We don’t save as much as we should for retirement because we can’t picture ourselves in forty years and needing that growth. We don’t see ourselves spending months to pay down a debt we accrue in just minutes.
It’s not that we’re bad at math, we’re bad at psychology.
As we approach tax season, you will probably get a tax refund. Last year, the average tax refund was nearly three thousand dollars. I don’t care how much money you make, that counts as a windfall. The problem with a windfall like that is that you are not psychologically prepared for it. You have a tendency to see it as a bonus rather than what it really is – an accumulation of last year’s overpayment of taxes.
To hijack your instinct to simply spend this “free” money (that in reality you worked really hard for), put it to work before you get it.
Boost Your Retirement Fund
Right before you file your taxes, you should know how much of a tax refund you’ll get from the Treasury. Use the money to boost your IRA. Better yet, max out your IRA from the beginning of the year to make an extra $705 more.
Pay Down Debt
You can’t build on your net worth if you’re anchored to high interest credit card debt. Pay down expensive consumer debt. Credit card companies absolutely love it when you only pay the minimums because it means they get to keep extracting money from your wallet every single month. Your mind may tell you you’re able to buy a couch and only pay $20 a month, but the math says you’ll still be paying for that couch even after you’ve trashed it.
Treat Yourself
We can’t always outsmart ourselves and the psychology of money goes way deeper than our conscious minds will admit (it’s why we eat late night snacks even though we know it’s bad for us). Why not give in a little so you don’t give in the whole way? Treat yourself to something nice and then put the rest towards something “responsible”, like paying down debt or saving for your retirement. Depending on the size of your windfall, this could be a nice vacation or just the latest gadget you’ve had your eye on. By treating yourself a little bit, you enjoy the fruits of your labor (or luck) so you don’t feel compelled to blow the whole amount.
Remember that ultimately this is a question not about self control or intelligence, but simple psychology.
Windfalls are tricky to deal with because we don’t think of them as “earnings” or “regular money,” we think about it as a bonus and how we should treat ourselves.
In the end, money is fungible: A dollar from a windfall is no different than a dollar from work or found on the ground. Use those dollars to get closer to your biggest goals. Anything else is a waste.
The smartest thing is to not give the government an interest-free loan and plan ahead so that you aren’t getting a refund.
Teri, your comment is years out of date. With interest rates near zero, getting a refund means the government is giving you a free savings account. I’m amazed you’re using that clique long after it’s obsolete.
Teri, you are exactly correct. Millions of people continue to think it is a financial windfall when the government gives them back THEIR money after holding onto it for a year. It doesn’t matter if interest rates are near zero. I have better places to put my money.
In response to Teri, I have to add that profiting from not giving the government extra money in the first place requires planning and discipline, that many people don’t do or have. If you maximize your deductions, thus increasing your weekly take-home pay, you MUST put that extra income into savings. IF you do that, then Teri’s suggestion is correct. Otherwise, you won’t have a windfall at tax time, and you won’t have any savings.
Much of our refunds have gone into our emergency savings account. If we had debt, it would go into debt repayment. The article is a very good one. On a different note but looking at the beginning of the article, if you work in a job with retirement plans, put everything you can into every one! In later years, you’ll win your freedom in retirement this way.
3 and a half years ago, I made the mistake of buying a new car. It was the first one I had bought in 20 something years. The dealer took me for one hugh ride, over charging me for no more than what I got. But very soon, I will be using my tax refund and savings to pay this mess off, and never again will I deal with another thieving car dealer. Go over every line, don’t take their word as to what it says, while they’re holding it just out of reach. The thing is, I will never buy from them again, and I won’t recommend them. So they didn’t totally win.
Uh, yes, they got your money, so they did win. There is no excuse to get fleeced by a car dealer in this day and age. Do your research, don’t step on the lot without financing in hand, and don be afraid to walk if the deal isn’t good.
This is the first time for me to send a post. I have always been a believer in using the governments money over mine any day I was allowed to save 15%of my pay into my 401k I always claimed an additional exemption for every 5% I could save. Yes the government isn’t paying diddly on savings now but neither am I investing their money going into MY acct. in bank C.D.s The key to me is to use their money during the year as they take out “light” and buy the whole market I guarantee you I make a whole lot more than what is thrown off on a bank C.D. I buy the WHOLE market and diversify. Rebalance once a year What goes up-sell’ what goes down buy and you will make money using the bosses money. Good luck to all.