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Big refund? Too bad
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March 14, 2001: 11:05 a.m. ET
Big check from Uncle Sam means missed opportunities
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NEW YORK (CNNfn) - Looking forward to a big tax refund from Uncle Sam this year? Already thinking about the new computer or summer vacation that you are going to buy with the money you are going to get back?
Sure, a refund sounds enticing, but the reality is something very different. A big check from the government means last year was one of lost financial opportunities for you, and you shouldn't let it happen again.
The problem with a large refund is that it represents money that the IRS didn't need from you and you didn't get to use during the year to better your financial situation by either investing or paying off debts.
Click here to read more CNNfn tax coverage
"A large refund means you have been letting the IRS use your money for free," said Cindy Hockenberry, an enrolled agent and spokeswoman for the National Association of Tax Practitioners. "Most financial planners will tell you that's not a good investment."
The Internal Revenue Service, unlike a bank, doesn't pay any interest on the money even though they have been holding on to it throughout the year.
No fuzzy math here
Most tax experts will tell you if you are one of those people who regularly receives a large refund from your taxes, that you should change the amount your employer withholds from your paycheck by filing a new W-4 tax form. This can be done any time during the year and can be changed more than once during the year.
By amending your W-4 you can have less money taken out of your paycheck and more put in your pocket, which you can then use to buy stocks or mutual funds, or pay off any high-interest credit card debt you might have.
"It's like giving yourself a raise and it is really the money-smart thing to do," said Hockenberry.
Think of it like this: If you received a $3,000 refund last year, you were giving $250 a month to the IRS as an interest-free loan. Sure, you got it back. But had you kept that $250 each month, you could have put it in an investment vehicle that would have been earning interest. Or, if you have debt, you might have used that money to get yourself in better financial shape.
The best situation on tax day, according to John Roth, senior tax analyst at CCH Inc., a provider of tax law information, is one where you owe the government just a couple of hundred dollars. "It's hard for people to realize that they should be paying just a little bit, because people tend to think that getting a refund is good," said Roth.
Roth suggests anyone who expects or receives a refund of more than $1,000 should look into amending their W-4 so they don't direct so much of their money to the IRS.
Click here for a W-4 calculator
Need some help?
Although your employer can help you change your withholding amount on your paychecks, Roth said you may not be able to turn to your employer to figure out how much of a change you need to make so the IRS doesn't take too much of your money.
There is help, however. The IRS puts out a publication, 919, which contains worksheets to help you figure out exactly how many allowances to claim on a W-4 to make the appropriate adjustments to your income. The more allowances you claim on a W-4, the less income tax is withheld from your wages. You will have the maximum income tax withheld if you claim no allowances.
Roth also suggested that anyone considering changing their W-4, who has access to a personal computer, can use a tax program to figure out the appropriate changes. The programs, he noted, have all been approved by the IRS, so you can be assured the information is good.
Of course, you can also go to an accountant or tax preparer for help.
Put the extra income to work
CCH also recommends getting together a game plan when you decide to increase your income, or you may simply end up spending it and not using the extra money to your advantage.
Here are some ways CCH suggests you use the extra income:
- Direct the savings into an employer's 401(k) plan. These contributions are pre-tax deductions and are not taxed until the money is withdrawn.
- Contribute to a tax-deductible IRA, a Roth IRA or to investments, such as mutual funds, which may be eligible for the lower capital gains taxes.
Roth also recommends anyone who has credit card debt should use any extra income to pay it off as soon as possible.
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 WHAT TO DO WITH ALL THAT EXTRA MONEY?
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Stash it away in a 401(k) plan
Fund your traditional or Roth IRA
Pay off credit card debt
Open a Christmas club account
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Hockenberry said another possibility to explore is to put the extra money in something called a Christmas Club account, which she said is available at many credit unions. They operate much like savings accounts, but you cannot take the money out until a fixed date. Many people, said Hockenberry, use Christmas Club accounts as forced savings to buy holiday gifts or pay for a vacation.
If you do get a big refund, don't take the traditional route and blow it all on one big purchase. A refund is in itself a chance to prepare for next year. CCH suggests you have it deposited directly into a savings account because you will get the refund faster and you may eliminate some of the temptation to spend it all if it never makes it into your hands.
Another strategy is to have the refund applied to next year's taxes, then decrease your withholding and have the extra income channeled into a tax-advantaged savings vehicle.
Or, you may want to put $2,000 right away into a traditional or Roth IRA. A traditional IRA is tax deductible if certain requirements are met. Roth IRAs offer no immediate tax deduction, but can offer tax-free withdrawals in future years depending on how and when the withdrawals are made. 
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