Money and Love Monday (if you have a question regarding money and love, be sure to e-mail me at firstname.lastname@example.org), but I did get into a discussion with a friend about how many deductions she and her husband should take on their taxes.
Here's the situation: She and her husband have 4 kids. She purposely takes zero tax deductions so that she and her husband receive a large tax return every year. She wanted to know my opinion on that strategy.
Most financial planners will tell you to NEVER do that because you are giving the government a tax-free loan. Instead of giving them the loan, it would be better to take that money and put it to work FOR you, instead of for the government.
I agree completely with that logic. If you do not yet invest money into some kind of retirement plan and a college savings plan (if you have kids), then putting that money to work for you is a MUCH better idea than letting the government get it all interest free. If you are looking for money to invest, taking more deductions is a wise way to get extra money every paycheck to start investing (provided, of course, you typically get a nice tax return every year. Don't take more deductions if you usually OWE the government come tax time!).
If, however, you are merely wanting more money to spend on consumer goods, then I think having a "forced savings" in the form of taxes- which you will get back at the beginning of the year- isn't such a bad idea. Perhaps you really want to go on a trip, but once you see money in your checking account you can't help but spend it, then taking fewer deductions so that you will get a big, fat check in April which will fund your trip might be a smart route to take.
I know many of you disagree with that statement.
Many financial experts disagree with that statement.
What I am basically saying is that the answer to this question depends on YOU.
Are you disciplined enough to put that extra money into savings? Or will you merely spend it on junk?
If you will merely spend it on junk, will you be more disciplined with a large amount of money at once? Yes, it will not be earning interest while the government has it. But if you would merely spend it on junk then it wouldn't be earning interest for you anyway- it would be spent on CDs, video games, or the like- and you wouldn't have the money for your dream vacation, either.
I asked my friend why she liked having the large lump sum. She said she liked it because then she could pay off her credit cards.
This scenario seems rediculous. Not only is she NOT earning interest, but she is PAYING interest on credit cards because she spends more than she earns.
The best solution for her would be to take deductions, receive a little more in her paycheck each month, and PAY OFF HER CREDIT CARD EVERY MONTH.
(ok, let's be honest- the best solution would be to take more deductions, put the extra money into a college fund for her four kids, set up a budget, and CUT UP HER CREDIT CARDS AND BUY EVERYTHING WITH CASH!)
Mr. Eschewing Debt and I take a lot of deductions, but we still seem to always end up with a large tax return. This year the child tax credits really helped us out- and that was an unexpected bonus that we weren't counting on. We enjoy a large tax return, but we did once again up our deductions so that we will have a smaller return next year.
What will we do with that extra money?
Open up a college savings account for our youngest kiddo.
Do you take lots of deductions, or do you like getting a large tax return every year? What's your tax strategy?