3 Tax Refund Strategies for Your Retirement Plan

It’s April, which means it’s that time of the year to settle up with the IRS. If you have a refund coming back to you, it should feel good to get that boost of cash into your account. Many people plan on that extra bonus at this time of the year to help with their financial goals. Whether it is spending on a home repair, taking a trip, or wiping out a debt, that extra money can always prove useful. However, keep in mind that if you do have a large refund, this means that you overpaid your taxes throughout the year. In a sense, you were giving the IRS money each month, only to receive it back without any interest. While getting that money back in a lump sum can feel good, here are 3 changes you might consider if you have a large refund this year:

Adjust your tax withholding to keep more money in your pocket each month

If you are still working and receiving your wages each month, it may be helpful to boost your cash flow. Instead of sending the same amount of money to the IRS this year only to receive a refund, you may consider adjusting your tax withholding and increasing your net income on your paycheck. This extra money each month can be put to use paying down your mortgage, saving for a vacation or other lifestyle goal, or increasing your monthly investment contributions.

If you are already retired, consider adjusting the withholding amount on your required minimum distributions or IRA withdrawals.

Fund retirement using a Roth IRA or Roth 401(k)

For many of us the default retirement savings is a traditional 401(k). You may want to review your retirement savings to see how much of your contributions are pre-tax, giving you an effective tax deduction this year. Your 401(k) contribution automatically reduces your taxable wage on your W2, and your deductible IRA contribution will show up on line 32 of the Schedule 1 on your tax forms this year.
If you received a refund this year, you may not need the deduction that this pre-tax savings is giving you. Instead, you could direct that savings into a Roth contribution. This means that your savings contribution will be made after taxes are withheld. The money put into a Roth account will grow tax-deferred and can be withdrawn tax-free in retirement. Having a tax-free portion of your nest egg can give you more control of the amount of tax you will pay in the future.

Many of us can fund our company 401(k) with Roth contributions and it is worthwhile to check if this option is available to you. Also, it is important to know that if you make a change to Roth contributions, your employer contributions will still be made pre-tax.

It may be a good time to convert money to a Roth IRA

Another way to look at a tax refund is that you may have room to receive more income within your current tax bracket. If you have traditional IRA savings, it may be a good idea to convert a portion of your money to a Roth IRA. When you do this, money is transferred from a pre-tax account to an after-tax account. You will owe taxes on the amount that is converted, which if all other assumptions remain the same, will reduce your tax refund next year. Once the money is converted, it will have the future benefits that come with a Roth IRA of tax-deferred growth and tax-free withdrawals.

Make sure to consult your tax advisor

As you consider these options, it is very important to work with a tax advisor before making any of these changes. While Seaside Wealth provides analysis on how these changes will affect your financial plan, we do not provide tax advice. We are happy to coordinate with your tax advisor to make sure any changes you make will optimize your retirement plan and financial goals
As always, please contact us with any questions that you have regarding your financial plan.