Another new year, another round of tax refunds—everybody’s favorite topic! The average tax refund check is around $3,000 which is enough for a shopping spree, a week’s vacation, or (even better) a higher credit score.
Obviously, this last course is the one we suggest and probably the one you’re considering—why else would you be reading this post? So let’s assume that you’re going to use your tax refund to tackle your debt and build your credit score, but you don’t know how.
Well, we’ve got a few suggestions.
1. Catch Up on Credit Card Debt
Paying down your credit card balances will save you more money in the long run, as it will decrease the amount of interest you owe over time. Let’s say you have a credit card with 12% APR, 2% minimum payments each month, and a balance of $4,000. You could pay the minimum of $80 for the 50 months it would take to pay off that balance, but you would also owe a total interest payment of $1,573. Paying off that balance quickly will reduce the amount of interest you owe and the amount of time you spend paying back the balance. Even better, it will boost your credit score since 10% of your FICO score is determined from credit utilization, which is the ratio of your card balance to your credit limit.
When tackling credit card debt, you can either target the card with the lowest balance, or the card with the highest interest rate. Paying off the card with the lowest balance, while still making all the minimum monthly payments on your other cards, will make the process of debt repayment seem faster. This strategy is especially effective when using your tax refund, as a few thousand dollars might be enough to eliminate or significantly reduce your debt on multiple cards. If you are easily discouraged by slow progress or have debts so large that your tax refund won’t be able to balance any of your accounts, targeting the card with the highest interest rate might be a better strategy. Again, high interest rates lead to high interest payments so the quicker you catch up on that balance, the better—and in the long run, this strategy is the quickest to lowering your overall debt, though it may not always seem like it.
Optimally, the card with the lowest balance will also be the card with the highest interest rate, but this is not always the case. When considering your credit card debt, try and locate which card is causing you the most stress—whether that be due to huge balances or high interest rates—and use your tax refund to start paying off that card.
2. Stay Current On Your Debt
Of course, credit card debt is not the only debt out there, and probably not the only debt you are worried about. If addressing credit card debt is not your most pressing financial concern, you might want to put your tax refund to good use by paying off other debts like mortgages, car loans, and student loans.
For example, if you have been struggling to make the minimum payment of $200 on your auto loan for the past six months and you get a tax refund of $1,000, you should divide that money into five segments of $200 so that you don’t have to worry about your minimum payment on the auto loan for another five months. This will also free you up to use your funds to alleviate other sources of debt.
Any bills you are struggling to pay are first priority when considering how to use your tax refund, whether said bills are from loans, a mortgage, credit card debt, or monthly utilities. Not paying your bills on-time and in-full is the fastest way to trash your credit score, and a low credit score is conducive to MORE debt, not less.
3. Invest in Credit Repair Services
Just because you know how to change the oil in your car doesn’t mean you should always do it on your own. For one thing, you might not have the right equipment and could risk seriously injuring yourself or your car. For another, letting someone else check your oil also gives them the opportunity to find any other issues with the car which you might not have the expertise to either notice or repair. Credit repair is very similar. You may have read a few articles about building credit, but that doesn’t mean you have the resources or insider knowledge needed to accurately identify and address your credit problems.
Just because your monthly auto loan is causing you the most stress, that does NOT mean that it’s the biggest red flag on your credit file. In fact, a low credit score could be due to a mistake by the bureaus which produced your reports, but you probably wouldn’t be able to spot that on your own as credit reports are notoriously tricky to unravel. The best way to build credit is to invest in credit repair. Use your tax refund to hire a professional who is willing to meet with you, go over your reports, identify your biggest financial concerns, and help you address them.
A credit consultant will give you the best strategies to tackle your debt with the least amount of personal research, their services cost less than the average tax refund, and you are almost guaranteed to see your score improve. If you can afford the minimum payments on all of your bills and have been paying them responsibly, but your credit score is still lower than you would like, investing in a credit expert is the best way to use your tax refund to build credit fast.