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5 ways to make the most of your tax refund
February, 07th 2020

There are various options to use the money, for instance, should you save it? should you splurge, or invest it? While some choices could improve your financial situation, others can give you a short trip or the phone that you have been wanting for some time.

Getting an income tax refund is both exciting and at the same time stressful. Most generally do not know what to do with their sudden and possibly unexpected windfall. There are various options to use the money. For instance, should you save it? Should you splurge, or invest the money? While some choices could improve your financial situation, others can give you a short trip or the phone that you have been wanting for some time.

A tax refund could make you feel rich and push you to splurge on unnecessary things. Experts suggest taxpayers should remember that this isn’t extra cash, the government isn’t sending you a bonus check, it is your own money. Try to treat your refund like your monthly paycheck, and give it a purpose. Determine your financial priorities and utilize the money.

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Hence, if you have received or expecting a tax refund this year, make a plan for it in advance so that you can fill in gaps in your financial life before splurging.

Here are some ways you should consider spending your tax refund;

1. Clear off debt
This is the first and foremost thing you should do with your money, clear your existing dues. You should not save or invest your own money when you owe money somewhere. Especially, if it includes you paying an interest rate of 35-40 per cent per annum.

Existing dues include car loans, outstanding credit card payments, personal loans, etc. If you have various dues, start clearing if off in order of interest rates. The ones with higher interest costs and no tax benefits go first. The ones that offer tax benefits such as student loans and home loans, should be the last to be paid off. Also, check for pre-payment charges.

2. Invest in NPS – Get an additional tax break
In NPS under the new Section 80CCD (1B) up to Rs 50,000 invested is eligible for additional tax deduction. This is over and above the Rs 1,50,000 lakh investment limit under Section 80C. At the highest tax bracket of 30 per cent, one could save around Rs 15,000 on one’s next tax bill.

Note that under the scheme, it is mandatory for investors to buy an annuity plan with 40 per cent of the corpus at maturity, the rest 60 per cent can be withdrawn. To make the deal sweeter, withdrawals up to 40 per cent of the corpus is exempted from tax. Hence, if you withdraw 60 per cent of the amount, you will be needed to pay tax only on 20 per cent of the corpus withdrawn.

3. Increase equity exposure
Keeping the money lying in a bank account is not the best idea. Invest the lumpsum money in a debt fund and gradually move the money to an equity fund. You could also put this money for a long term goal, which is 5 to 10 years away. For big purchases, you can use this money to make down payments and reduce your own loan burden.

4. Get your self insured
There is a need for both life and health insurance cover. Depending on your needs and situation opt for them.
If you are one among them that buys an insurance plan and then let it lapse by missing the premium deadline. Opt for a single premium term plan. With this policy, you can make a one-time payment, and your life insurance will be taken care of till you are 60. Even though the single premium option helps you maintain financial discipline, it is not a very cost-effective option.

Health insurance cover, on the other hand, is a necessity, given the high medical costs. If you have a family, the employers’ group insurance policy may not provide sufficient coverage. Hence, opt for a family floater health plan, for all family members. Even though a family floater plan is an ideal option for young nuclear families, know that the coverage of a floater plan is shared between the members.

5. Create an Emergency fund
An emergency fund can be needed for many reasons. Starting from job layoffs, to medical issues or other emergencies, having an emergency fund saves you from going deep into financial trouble. Having set up a contingency fund, you can avoid such circumstance, and keep maintaining your finances. Even on rainy days with an emergency fund you can take care of various not discretionary expenses, keep paying their EMIs on loans, and also continue paying insurance premiums.

With a contingency fund, you keep a certain amount of money aside for sudden emergencies. You do not use the money for daily expenses, this is the money that you can rely on for unexpected and unplanned scenarios, or during a crisis to meet your regular expenses.

Know what tax treatment your income tax refund will have

An income tax refund is the excess tax that was paid by you, and thus it is not considered as an income. Therefore, it is not taxable. The interest received, however, over the income tax refund is considered as an income. The interest is subjected to income tax as per the applicable tax slab.

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