By Christy Bieber, The Motley Fool
Close to 75% of Americans get tax refunds from the IRS when they file their taxes each year. These refunds often total several thousand dollars, and can seem like free money. In reality, though, the big check you get from the IRS isn't a windfall. It's a return of the interest-free loan you made to the IRS -- and getting a big refund really isn't a good thing at all.
Instead of getting excited about your refund check this year, take the opportunity to adjust your withholding status with your employer so you don't pay in more than you owe in 2020. There are two big reasons why you don't want to get a refund, which will hopefully convince you to make a change going forward so the refund you get this year is the last one you'll ever receive.
1. Your money is tied up when you need it
When you overpay your taxes, the IRS gets to keep your money until you get your refund. If you've started overpaying with your first check in January, it will be well over a year until you see your cash returned to you.
Since the average refund was $2,881 in 2018, the typical American overpays by about $240 a month. If your car needs $400 in repairs in February and you've overpaid the IRS by $480 already, they aren't just going to return your funds so you can use the money to get your vehicle up and running. Instead, you may be forced to borrow or cut costs elsewhere to cover your expense while the IRS holds onto your money for many more months.
Rather than letting your cash pile up in the IRS coffers, you could put the extra you're paying into an emergency fund so it's there when or if you need it.
2. There's an opportunity cost to giving your cash to the IRS
Being unable to access your money isn't just a problem in the case of a financial emergency. All that extra cash you're giving to the IRS can't be used for other things, such as paying off your debt or investing in the stock market. The IRS won't pay you interest, but the stock market will often provide you with a return on your investment -- and your credit card company definitely will charge you interest if you owe.
Even if you ultimately use your refund to pay down your credit card bill or invest for your future, you've delayed your payments or investment for months by giving too much cash to the IRS. This could cost you a few hundred dollars in extra interest, especially if you have a credit card that's charging you a high rate.
Change your withholding so you don't get a refund
You don't have to tie up your money or lose out on the chance to use it for months on end. Simply use the IRS withholding calculator to figure out how much you should have withheld from your paychecks. Then tell your employer you need to update your W-4 so you can make the necessary changes to have the correct amount of money taken out of your checks. Your paychecks will get bigger when you do this, and you can keep your money during the year instead of giving the government an interest-free loan.
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