It is tax season in the United States. That means that soon you may be receiving a tax refund from the state, or the federal government, or both. A tax refund is a financial windfall, or money that unexpectedly falls in your lap. Rather than spend it all on whatever you feel like buying today, let’s make a plan.
Most windfalls will be of a reasonable size, big enough to be exciting but not so big that we can quit our jobs. Maybe a few hundred or even a few thousand dollars. For these kinds of sums I suggest the following plan:
- 10% you spend on whatever you want. A nice dinner out, a new sweater, maybe a new computer if you got a really big windfall. That 10% is yours to splurge with, so enjoy!
- 45% you use to pay down debt. If you have any Credit Card Debt that might be a good debt to pay down first. If you are free of credit card debt, maybe you have student loans, a car loan, or a mortgage. If you owe anyone any money, use this part of the windfall to pay that debt down.
- 45% you put into your Emergency Fund. If you are still building your emergency fund you are that much closer to your goal amount.
Debt free? How is your emergency fund doing? If you are still working on having a good comfortably large emergency fund consider putting the full 90% in there. Fully funded emergency fund but not debt free yet? Use the full 90% to pay down debt.
Debt free with a fully funded emergency fund? Great job! For most people the right thing might be putting the windfall into retirement savings. In a future post I’ll talk about the trade-offs involved in saving for retirement, a house, a college education, and other long term savings goals. The short version of that post is: I think saving for retirement is the most important item on that list.
The important thing to keep in mind about windfalls is that they might feel big, but they’ll be spent in an instant if you don’t have a plan. So spend a bit on yourself, then dedicate the rest to becoming debt free, prepared for emergencies, and possibly saving for your long term financial goals.
Congratulations! You are one step closer to being in control of your money.