What Are You Doing With That Tax Refund?

What Are You Doing With That Tax Refund?

**This is a sponsored post written by me on behalf of Alterna Bank. All opinions are my own.

Canadians are usually an optimistic bunch come tax season, with the majority of tax filers expecting to get a refund. In fact, many of us count on a tax refund to pay off debt, cover the cost of a vacation, or to further our savings goals.

Most financial experts, including me, will tell you that getting a tax refund is not necessarily a good thing – more like a case of bad tax planning.

A tax refund means that you paid more than your fair share of taxes throughout the year, essentially lending the government an interest-free loan with your own money!

That doesn’t stop the majority of us from getting excited – down right giddy – over the prospect of receiving a big, fat, juicy tax refund. But, given the knowledge that a tax refund is just the government giving back your hard-earned dollars, what you do with that refund can make a big difference in your finances.

What To Do With That Tax Refund?

Let’s say after filing your taxes you expect to receive a $3,600 refund later this spring. What that really means is you overpaid your taxes by $300 per month last year.

Now think about what you want to do with that refund. $3,600 is a lot of money to receive in a lump sum and it’s precisely the type of refund that gets people thinking about buying a new television or going to Las Vegas for an epic long-weekend.

We’ve already established that getting a big tax refund is not a good thing. It means you’re paying too much tax, or more likely, your employer is withholding too much tax at the source.

If you make regular RRSP contributions, for example, or expect to pay a lot in child-care expenses, then you should fill out form T1213 (Request to Reduce Tax Deductions at Source) and then ask your employer to reduce the amount of taxes withheld on your paycheque.

With proper tax planning like this you might have been able to save that $300 per month last year. In this case, would you sock away $300 every month to save up for a new TV or a trip to Vegas in the spring? Probably not. So why do we feel it’s okay to spend our tax refund on a large impulse purchase?

Want a more responsible plan for your refund? Here’s a list of smart things to do:

  • Pay off credit card debt
  • Pay down a line of credit
  • Put a lump sum onto your mortgage
  • Spend some and invest the rest
  • Invest it back into your RRSP
  • Contribute to your TFSA
  • Contribute to your child’s RESP
  • Donate it to a registered charity

Another option is to do nothing. What I mean by that is you might not have a financial goal that requires your immediate attention, but you’ll eventually need to access the cash.

Maybe you need to start an emergency fund or build on an existing one. Or, perhaps you want to buy a house in two or three years and need to add to your down-payment fund. Maybe you’re planning a summer holiday and need to save some cash for a few months.

In this case the best place to park your refund is inside a high interest savings account – one that gives you a chance to earn a decent interest rate.

One to consider is Alterna Bank, which has a Tax-Free eSavings Account and High Interest eSavings Account that both pay 2.35%* interest. Both accounts have no fees and no minimum balance requirements which makes them ideal for short-term savings. Online banks like Alterna consistently offer higher every day interest rates with no gimmicks and no teasers. Equally as important, they are CDIC insured.

Final thoughts

Although we tend to get excited about the idea of a large tax refund hitting our bank account in April it’s important to understand where that tax refund comes from – you are paying too much in taxes throughout the year.

Getting a tax refund is not an excuse to throw caution to the wind and spend more just for the sake of spending. In fact, if you’re serious about getting the most out of your RRSP contributions then the responsible thing to do is to take your entire refund and put it right into your RRSP.

Less optimal, but perhaps equally responsible is to put that refund into your TFSA or onto your mortgage as a lump sum payment.

Finally, if you just want a place to stash your cash and earn some interest for the short-term, look for a high interest savings account.

Remember, a tax refund is not a windfall or free money from the government. It’s your money! You lent it to the government and now they’re giving it back to you. Now is your chance to put that money to good use.

*Interest is calculated daily on the closing balance and paid monthly. Interest rate is annualized and subject to change without notice.

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8 Comments

  1. Amanda on March 7, 2019 at 5:43 am

    Great ideas, as usual!

    Most people are not aware of the T1213. I filled it out one year and was so pleased to not be giving an interest free loan to the government!

    Sometimes the challenge is getting that paperwork to the right people if you work for a large organization and it’s difficult to get a hold of your payroll folks.

  2. DaveG on March 7, 2019 at 5:58 am

    “Most financial experts, including me, will tell you that getting a tax refund is not necessarily a good thing – more like a case of bad tax planning.”

    Not always a the case. You may have come into some funds in the past year to allow you to catch up on contribution room for example. However, my point is that is far more important what you do with the tax refund than whether you get one or not. Sure, you could have planned perfectly and avoided a tax refund (hard to get perfect, btw), but that little bit of extra money in your pocket every payday would likely have been spent on Cappuccinos and other misc day to day spending.

    Financial planners, including yourself need to start thinking of a Tax Refund as a form of forced saving. It’s actually not a bad thing. You now have a wad of cash that you would not have had otherwise. You still may choose to spend it on frivolous expenses (hey, go for it if that floats your boat), but you could also put it into your TFSA for a rainy day. In that case you’ll come out ahead every time getting a tax refund.

    • KC on March 7, 2019 at 8:41 am

      This is more geared towards someone who regularly has a big refund (anything over $2,000) because they regularly contribute to RRSP and daycare so they can use the extra money at each paycheque to pay for extra curricular, extra mortgage payments throughout the year, etc so why not make your money work for you especially since you can set up PAD for all your investments nowadays making it easy to “miss” the money.

      In my early years, my income fluctuated as well as deductions and the ever-lucrative tuition credits which in some years I received a small refund ($11) and other years, a big refund ($4,000) but have always put them to good use except for that $11. That paid for my lunch.

      Nowadays as my income and RRSP contributions are consistent, I have filed that special form where I get a little extra money in my take-home pay which automatically goes into my investments and has generated more income than what my refund would have given me.

      I do agree with you that the tax refund regardless of the amount should be used wisely and the financial advisors need to encourage that some more. No “you can buy a TV or vacations!” Often I tell people who have a big refund to set aside a small amount for a little splurge (as long as their liabilities have been met) and save the rest.

      • DaveG on March 7, 2019 at 8:52 am

        “I get a little extra money in my take-home pay which automatically goes into my investments and has generated more income than what my refund would have given me.”

        KC, if you have the foresight and discipline to do that, congrats. Unfortunately, most people don’t. The extra $100/pay (eg) just winds up going into the chequing account and is spent by the next payday. 🙁

        Cheers!

        • KC on March 7, 2019 at 8:54 am

          Sad but true!

    • James on March 7, 2019 at 10:23 am

      I wish I had a tax refund! For 35 years I worked and had a tax refund and it was great! Now that I am retired for four years I just got a letter from CRA demanding quarterly payments of $3500. Not only have I not had a tax refund for four years, I have had to pay between 12k-14.5k each year since retirement despite $800 per month being taken off my pension, hence the letter from CRA. This essentially means that I pay taxes equivalent to five months of my pension! This does not even account for property tax, sales tax etc. in retirement your taxes WILL be your biggest expense, plan for it. I know I could ask the government to take more off my pension but I would rather invest the money myself and manage my payments that I know are comming. Now with the quarterly payments I can manage my money even longer and not make the large tax payment every April. I can’t figure out why I pay so much tax on a 4400 per month pension, I am thinking that those tax slips from my Robo Advisor and banks have something to do with it! Be happy if you get a tax refund while working if my experience is anything to go by, you will not get one in your retirement.

      • James G. on March 7, 2019 at 4:59 pm

        From one James to another…..I’m coming up on retirement soon too and my situation sounds similar. Just curious if you’ve been paying all that tax even with the benefit of income splitting. I believe one can do this with their pension can’t they?

  3. Steve on March 7, 2019 at 7:13 am

    In Ontario, you can help reduce the provincial debt, by donating your tax refund back to the government.
    Anyone interested?

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