A tax refund. The mere sound of these words can make you smile. But if you get a refund on your 2006 taxes, what will you do with the money? By making some smart choices, you could keep grinning for years to come.
Last year, the average tax refund was about $2,400, according to the IRS. Of course, the size of your refund will depend on your individual circumstances. But, let's suppose that you will get $2,400 this year. You might think that this amount couldn't really help you achieve your important financial goals, such as a comfortable retirement. But if you add the element of time to your $2,400, you might get some interesting results. For example, if you put that $2,400 in a tax-deferred account, such as a traditional IRA, and you let it sit there for 30 years and it earned a hypothetical 7 percent rate of return, you would have accumulated more than $18,000. Not a fortune, but nothing to sneer at, either. Now, let's assume that you could put $2,400 every single year into the same IRA, earning the same hypothetical 7 percent rate of return for 30 straight years. At the end of that time, you'd have more than $226,000 (commissions, fees and expenses are not included in the examples and would have an impact on investment results), which could make a difference during retirement. You'd eventually be taxed on your earnings, but, by then, you might be in a lower tax bracket. And, if you had been eligible to invest in a Roth IRA, your potential earnings would have been tax-free, provided you didn't take withdrawals before age 59.5 and you had your account at least five years. Not only is it a good strategy to put your refund into an IRA, but it's also easy. You can use IRS Form 8888 ("Direct Deposit of Refund") to automatically move your refund into your IRA.