Great article from Clearsight called “Use Your Tax Refund To Build Your Wealth.” I have not really found many of Clearsight’s articles to be that insightful but this one was. I particularly liked their discussion about the different types of expenditures:
Three types of expenditures
Ultimately, whatever you do with your money can be broken down into three basic categories of expenditures.
For some expenses, once your cash is used the money is gone. Things like food, utilities, clothes, entertainment, etc. These expenditures do not contribute to building wealth. This category includes necessary expenditures (like food) but sometimes also far too many unnecessary expenditures (like entertainment). Filling your cash flow with too many unnecessary things is often fun — but not productive.
In this category, the item you purchase may have value, but that value depreciates over time. The most common depreciable expenditure is a car. Most of us consider a car an asset because it has value, but every year, the car we own has less and less value. Cars depreciate, and often faster than we would like them to. Obviously, a depreciable asset is better for wealth building than a no-value expenditure because it at least contributes to our net worth.
Using your money in this category is the most productive for wealth building. Assets like GICs, real estate, stock portfolios and bonds, go up in value over time. Using your cash flow for these types of investments will be the most fruitful use of your money. Often, they are not as fun or exciting as spending money on that new big-screen TV or fancy car, but it is the best for improving your financial picture.
This is a great read for anyone. A tax refund is an asset and you can transfer than into a appreciable asset, a depreciable asset, or an expense. They left out a fourth option, which is to transfer it into a liability, but this is similar to “appreciable expenditure” above. They go on to talk about net worth,
A key benchmark in your financial planning is your net worth. Your net worth is simply what you own minus what you owe. A primary goal of your financial planning should be to increase your net worth year over year.
As for the tax refund and what you should do with it:
The answer should be the same answer to, “What should I do with my cash flow?” The best thing to do with your tax refund is to use it productively — towards building your net worth. You may think all of this is really simple and full of common sense. If that’s the case, then why don’t more people do it? It’s not easy to do. Financial planning is all about trade-offs and discipline. The people who succeed are the ones who just do it!
It seems like a no-brainer to transfer your tax refund into an appreciable asset (see “Appreciable expenditures” above) first. Maybe even just an ING Direct Savings account. You can always make a “no-value expenditure” from that asset later. For me just getting money out of my hands works wonders. Any incoming cash flows I receive, gifts, tax refunds, web design work, adsense revenue goes straight into some form of savings account. Once the money is in the savings account, I think carefully about making expenses from it because I have saved up that money and I do not want it to go to waste. I become attached to that money. This thought process is completely bypassed when I cash a cheque or deposit it directly into a chequing account.
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