By Teneshia “Miss Money Sense” LaFaye
When you get a lump sum of money, what’s the first thing you think of?
How you’re going to spend it, right?
It’s a normal reaction when people get their hands on unexpected cash, a check or a lump sum of money. But in order to build financial security and eventually wealth, you should learn to first consider how to hold onto some of the lump sum of money and make it grow.
A tax refund check is the single time of the year most people get their hands on a large sum of money. If you’re fortunate enough to receive one, learn to use it to build an emergency fund and retirement planning. Keep in mind that it’s not free money. Your refund represents your overpayment in payroll taxes to the government. However, the Earned Income Tax Credit (EITC) is like a bonus paid for up to four children.
Regardless of the source of your tax refund, you should use it to build financial security instead of blowing it all on shopping, a vacation or bills.
I recommend saving at least half of your annual tax refund check and splitting the money between a savings account and a retirement planning investment account. Once your savings account is built up to handle three months of living expenses, you should allocate most of your money into retirement planning accounts, such as a Roth IRA, universal life or an annuity for several reasons. These accounts can grow your money at a rate that is higher than inflation. The growth is tax-free, and your money is protected from creditors and lawsuits. Get a recommendation for an honest, competent financial adviser from a responsible friend or relative.
Using the rule of 72, you can save half your tax refunds for just 10 years and the money can grow to more than $100,000 by the time you retire. Couple that with your job’s retirement plan and you can have a secure nest egg when you stop working. The rule of 72 divides the average interest rate on your investments into 72 to determine how long it takes your money to double. So if your investments are growing at 8 percent interest, your money is doubling every nine years.
If $1,000 was half of a 21-year-old’s tax refund and he or she saved it for 10 years, it would be $10,000, and if he or she invested it at 8 percent interest until retirement, the money would double every nine years, which would be four doubling cycles, to reap $160,000. You may not be 21, but you may get a bigger tax refund to invest more money every year up until retirement to take advantage of the rule of 72.
Now isn’t investing half of your tax refund every year a wiser choice than blowing it all on frivolous spending.
For more on the rule of 72, savings and retirement, you may refer to my book Mom’s Money Lessons available at any online book store and on my web site, www.Mytensense.com.
Teneshia LaFaye is a former award-winning newspaper journalist and a nationally certified financial education instructor. She owns a health insurance agency and has written two books, What My Mom Taught Me About Money and Mom’s Money Lessons, available on her web site www.mytensense.com. Get her FREE daily money tips to work on improving your financial mindset by “liking” her MissMoneySense page on Facebook.