So, you find yourself with a tax refund. Now, the money is in your account and you’re wondering, what’s the best way to use this? To help you make the wisest choice, we’ve consulted with Liz Schieck, who has her FPSC Level 1 certification, and who advises people on how to make the right financial decisions for them in her role at New School of Finance.
Each person is in a unique position when it comes to their finances, says Schieck. Therefore, the first thing to consider is you want to accomplish, and what you need to do to get there. “How someone uses their tax refund – or any other windfall of cash – is totally based on their holistic financial situation and their goals,” she explains. “There is no one-size fits all.”
Sure, you could try to be a smarty pants by calculating how much you could save by paying down debt, or how much you could earn by investing that money, but the bottom line is, would doing so help you accomplish what you need to do?
“Rather than focusing on calculations people should instead focus on their goals.” explains Schieck. “Forget about all the noise that surrounds you that tells you what you should do, because that noise doesn’t know you and your unique situation.”
So, in thinking about your goals, should you pay down debt, contribute to an RRSP, or, maybe move that money into a TFSA? These options all have their benefits, but may not be the right one for where you are now. Here are some factors to consider for all three so you can decide how to make this money work for you.
Pay down debt
If you have debt, putting a huge chunk of money toward it may feel very satisfying, especially if it’s high-interest debt, like a credit card. But Schieck says before doing so you should think through whether you have any upcoming expenses that you’ll need that money for. “It’s common for folks to put everything extra they have toward debt, without leaving themselves enough to actually live, which inevitably means they have to use the debt again,” she notes. “It can feel very frustrating to be in that cycle, so if you’re thinking of putting extra cash towards debt, it’s best to make sure you can afford to spare that money.”
If you’re really serious about getting out of debt, Schieck suggests you put smaller amounts of money toward debt more consistently and frequently than put large amounts and end up using credit again.
Contribute to an RRSP
Investing that money in a Registered Retirement Savings Plan (RRSP) can be the right choice for some people. It will help offset your taxes for next year, and offers its main benefit, which is help people save money for retirement. If you’re trying to sock away money for your first home, or a home for someone related to you with a disability, you can also use money invested in an RRSP for a down payment through the Home Buyers’ Plan. But, if you need that money for other short or medium-term goals, then the financial consequences of taking money out an RRSP early means it’s likely not the best choice in your circumstances, says Schieck.
Contribute to a TFSA
Schieck loves the TFSA for its flexibility. “It’s a tax shelter just like the RRSP so if you want to invest within it, your investment gains are totally tax-free forever,” she explains. “And it’s a great place to save for long-term goals like retirement – an RRSP does not have a monopoly on retirement savings! – but its flexible withdrawals allow it to be used for more short-term goals like saving for property or going back to school, and it’s accessible in an emergency.” So, as long as you have haven’t exceeded your TFSA contribution limit, it’s definitely one place to consider stashing that money.