Smart Money Moves: What to Do with Your Tax Refund

by Kaitlyn Ranze

Last December, one of my coworkers found a $100 bill on the street while we were in Miami. Despite working with money (and building an app that helps you process what you do with money), the whole team spent the day dreaming about what we could do with the $100. We could buy drinks! An NFT! Rent bicycles!

I don’t recall how it got spent, but I do remember thinking, “money is money. Why is this more spendable than the money in our bank accounts?”

What people do with “found” money

While not necessarily a financial windfall, a “sudden wealth” event like found money or a tax refund can change what we do with it. Why is that?

Blowing money

According to the New York Daily News, 70 percent of lottery winners end up broke within seven years. Meanwhile, 80% of professional athletes deplete their income before their retirement. We can attribute it to lavish lifestyles and poor spending habits, but these types of behaviors happen on a smaller scale. In fact, most people are at risk of poor mental accounting when they receive a financial windfall. (Think tax returns, bonuses, and birthday cards stacked with cash.)

What was that phrase I used? Mental accounting.

Defining mental accounting

Mental accounting is the tendency we sometimes have to spend money differently depending on where it came from or what we intend to do with it. It undercuts your progress with money by treating your windfall as more “spendable” than other income (like your regular bi-weekly paycheck).

Treating your income tax return differently

Just like the $100 my team found on the street, financial windfalls tend to get blown. We’ll spend the cash more readily and lavishly. We’re also more likely to give it away more freely, and take more risks with it. (Seriously, we almost bought an NFT.)

Your tax refund is from earned money, but feels more like found money.

First things, first: Your refund is essentially money you overpaid the government. It’s directly tied to the money you earned, withheld from every paycheck to pay your taxes. But it doesn’t feel tied to your earned way when you get a sudden infusion of cash (to the average tune of $2,827).

Let’s breakdown what you SHOULD do with your tax refund.

Put it in a separate savings account

The federal government makes designating the cash from your refund into separate bank accounts relatively easily by providing a form you can file with your taxes (8888) . You can even throw it directly into your IRA.

Even if you decide the extra paperwork isn’t work the extra effort, you should still consider transferring the money from your tax refund into an account you don’t regularly use to spend. Think high yield savings or money market account while you create a plan for your money.

Why should put your tax refund in a separate bank account

Why put it aside? Having the funds in a different account than where you spend daily serves as a guardrail for impulse spending. Why do you need a guard rail? You’ve been doing just fine?

The world is designed to get you to spend

Think of it this way: Amazon makes it really easy for you to purchase items with their one-click checkouts. You don’t even have to input your card information to get packages on your doorstep. The inverse also occurs. You’re less likely to spend money if it’s a tiny bit harder for you to make a purchase. (This is what behavioral psychologists like to call a nudge.)

Not to mention, sitting on the money can clear your head of spending it and will give you the time you need to develop a strategy


Ultimately, your tax return IS a part of your annual income and you can work it into your budget.

Don’t have a budget?

Feeling good, like you should, with a BUDGET

In the words of Nav.It founder, Erin Papworth, “If you’re truly embracing a positive money mindset, the b word doesn’t send you hiding under your covers after an expensive night out. In fact, your secret weapon to financial freedom is knowing where your money is going, and how much is left over for some fun along the way.”

Your budget begins with tracking your income and that includes your income tax return.

Income includes wages, child-support, alimony, side-hustles

Then, determine how much you’re spending (your expenses) from month to month or paycheck to paycheck.

Expenses include things like housing, transportation, food, loans, childcare, taxes, and entertainment.

Subtract expenses from income.

(Not into writing it out or highlighting endless statements? Me neither. Check out how you can automate and customize your budget inside the money trackingapp.)

Based on what’s left, you’ll need to create a plan.

Scenario One: Your expenses are higher than your income

You have a couple of options to manage your money.

Earn more: take on a second job or start a side hustle from a hobby. You could tutor, become a virtual assistant, or start an online store. This is an opportunity for you to challenge yourself and try something new. 


Spend less: Make a list of essential expenses. Housing, transportation, utilities, budgeted food, and kids all require a chunk of your income. If you’re reducing spending, identify the non-essential items you can stop first. 

Scenario Two: You break even or have a little extra.

You have a good idea how much you earn and don’t go over. Well done! Time to make your money work for you.

Categorizing your spending with a budget improves your mental accounting.

Mental accounting isn’t only impacted by the origin of where you get it (whether you “earn” or “win” it). It also impacts spending depending on how you think about the way you’re spending it. This is where tracking your transactions and categorizing your spending comes into play.

The more specific you get with your money, the better your mental accounting becomes.

 Studies show that “An expense that can be assigned to more than one account (i.e., an ambiguous expense) is more likely to be incurred than an unambiguous expense that is constrained either by existing budgets or by previously constructed accounts.” In plain English: categorize your spending.

With the money tracking app, you’ll start with an automated budget pulled from your transaction history. Then you can customize your budget so you can have a plan for every payment. As Kenneth Medford puts it, “When things are tight, budgeting is how you claw your way out and get back on solid ground. And when you have money, budgeting is how you keep your money.”

What percentage of your tax refund can you feel comfortable with spending/not saving?

Rather than focus on a percentage, consider your long-term financial goals.

  • Do you have an emergency fund?
  • Any high-interest debt?
  • Are you planning on making a major purchase like buying a house or starting a business in the near future?

Why you need an emergency fund

In the words of Mackenzie Stewart of Life at 23k, “It’s a savings fund for if you suddenly find yourself out of work, need an unexpected car repair, or need to take a kid to urgent care for a bug bite. It’s money saved that covers the unexpected so you aren’t relying on money from your checks that need to go to expenses and you’re not using credit cards. “

Want some pro-tips for starting an emergency fund? Check out this article or download this free guide.

Why you should use your tax refund to pay off high-interest debt

High interest debt isn’t just a drain on your finances. It’s also a drain on your feelings.

A study by Dr. John Gathergood of the University of Nottingham found that those who struggle to pay off their debts and loans are more than twice as likely to experience a host of mental health problems, including depression and severe anxiety. Specifically, 29% of people with high debt stress also report severe anxiety

So, in the interest of your well-being, consider paying down your high interest debt.

How to put your tax refund to work

If you don’t need this money to get by on a day-to-day basis, put it toward your major financial goals.

Whatever you decide, put a plan in place before you get your tax refund.

If there’s one thing this article needs to make clear, managing money is about more than math. Often, we do things with money that don’t add up and that’s probably more to do with your relationship with money than understanding math. When your tax refund lands in your bank account without a purpose, it gets spent a lot faster than money we earn on a regular basis. Before that check hits, make a plan for the funds. It might not be as much fun as blowing it, but you’ll feel better long-term about it.


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