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By Lauren Schwahn
Households in the U.S. are facing unprecedented debt levels, with totals reaching $18.04 trillion by the end of 2024. For many Americans, using their income tax refunds to reduce debt could be a strategic move. With the average refund amount being $3,138 in 2024, it can significantly impact debt repayment. However, it's essential to consider whether paying off debt is the most effective use of this refund.
Confirm your refund amount before making plans
Don't make financial moves until you receive your funds. To plan ahead, estimate your refund using a tax calculator if you haven't filed yet. Gather paystubs, W-2s, and other necessary documents. If you've already filed, check your tax return for the exact amount and use it to track your refund status with the IRS.
Cover necessities
Before using your tax refund for debt payments, ensure you can cover essential expenses like groceries and utilities. Consider building or boosting an emergency fund to avoid taking on more debt during unexpected expenses. Aim for three to six months' worth of living expenses, but start with a smaller goal if needed.
Prioritize high-interest debt next
Once your basic needs and emergency fund are secure, focus on high-interest debt like credit cards and personal loans. List your debts by interest rate, from highest to lowest. Use your refund to pay off the highest-rate debt while making minimum payments on others, following the debt avalanche strategy.
Keep values in mind
The guidance provided is a useful starting point for deciding how to use your refund. Consider what matters most to you and allocate your refund across multiple goals if possible. This approach can help you balance financial responsibilities while still enjoying some benefits.
Protect tax refund
Tax preparation services may offer tax advance loans, allowing immediate access to your refund. However, this option is often not advisable due to associated fees and interest, which can leave you with less money overall.
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