‘Pre-Committing’ Your Tax Refund Could Be the Key To Maximizing Its Benefits
Written by
Gabrielle Olya
Edited by
Molly Sullivan
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The average tax refund last year was around $3,000, which is a nice chunk of change to get as a windfall. However, it’s easy to give into spending temptations and squander this money if those funds hit your account and you don’t have a plan for it.
That’s why some financial experts recommend “pre-committing” this money to savings or toward another financial goal — or, put another way, having a plan for what to do with this money in advance of actually receiving your refund. This can come in many forms, including using digital tools to set up direct deposits, mental accounting or writing down your goal.
The act of pre-committing has a proven impact — a study in the Journal of Economic Behavior & Organization found that taking the steps to pre-commit your tax refund increased savings outcomes by 25%.
Here’s why pre-committing works, plus, some ideas for how to pre-commit your own tax refund.
Why You Should Pre-Commit Your Tax Refund
Setting a goal to use your tax refund productively before you receive it makes you more likely to do so.
“Pre-committing is somewhere between leaving the money on the kitchen table and putting it in a piggy bank so you can’t access it,” said Derik Farrar, head of personal deposits at U.S. Bank. “If you pre-commit, you’re more likely to be intentional and thoughtful about how you use the refund and less susceptible to spending it in an unproductive way.”
Farrar noted that pre-committing simply means having a productive goal for a portion of your refund — it doesn’t mean you have to save all of it. Giving yourself some wiggle room can make you more likely to stick to your goal.
“In the same way that most people who want to get healthier also don’t want to eat salad for every meal, if you pre-commit even part of your refund, you can do so knowing that you’ll use the rest of the bonus to treat yourself,” Farrar said.
3 Best Ways To Pre-Commit Your Refund
If you want to make the most of your refund, there are several goals you could “pre-commit” those funds toward, depending on your specific circumstances. One is to build an emergency fund. Ideally, you should have at least three months of living expenses available in a savings account.
To determine if this is the best use of your tax refund, Farrar said to ask yourself, “How many months of living expenses do I have in liquid savings?
“Frame that answer in the following manner: ‘If I lost my job or main source of income today, how long could I go out without accepting a ‘good enough’ job just to pay the bills?,'” Farrar said. “Borrowing money at a high interest rate to buy four new tires is a bad short-term outcome; potentially resetting your base level of earnings is a much bigger detriment to your financial health, but both could happen as a result of insufficient savings.”
Another goal you might want to pre-commit your refund to is paying down debt. If you have high-interest-rate debt, like credit card debt, pre-commit at least a portion of your refund to paying it down.
If you have an emergency fund and you don’t have debt, pre-commit your refund to investing in yourself.
“Find a way to invest in yourself, whether it’s a skill to increase your earning power, actual market-based investments or non-financial investments that will improve your relationships,” Farrar said.
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