5 Things to Know about Tax Refunds

As you file your 2015 income tax return, you may find that the government owes you money. Last year (2014 returns filed in 2015), the average refund amount was more than $2,800. Here’s what you should know about tax refunds.

1. Refunds usually are only a return of your overpayment

Some taxpayers plan to receive a refund so they have a lump sum that they use for vacation or other big ticket purchases. If you are getting a refund because you had too much withheld from your paycheck or overpaid your estimated taxes, don’t celebrate too much. You’re merely getting your own money back…without interest. The government does not pay interest on a tax refund unless it waits more than 45 days after the due date of the return, or if filed later, 45 days after you’ve filed your return.

2. Refunds from refundable credits must be requested

If you qualify for the earned income tax credit, you may be eligible for a tax refund greater than your tax bill. However, the only way to obtain it is to file a tax return, even if your income is below the filing threshold so that you are required to file a return. The IRS won’t reach out to you and tell you to file a return in order to claim the refundable amount.

Other refundable credits are:

• Additional child tax credit
• 40% of the American opportunity credit
• Premium tax credit

3. Refunds suggest adjusting tax payments for this year

If you had a large refund and don’t want to wait until you file your 2016 return in 2017 to again recoup your overpayment, consider adjusting your 2016 tax payments:

• Reduce your wage withholding. You can do this by increasing withholding allowances so less taxes will be taken from your paycheck. Alternatively, you can instruct your employer about a specific withholding amount that you’d prefer in order to achieve the proper withholding for the year.
• Reduce estimated taxes. If you pay these taxes, you can reduce your quarterly payments to better match your payments with your tax liability for the year.

4. Refunds can generate future tax savings or investment income

You can receive a check for your money, have it deposited in your checking or savings account, or apply some or all of it toward 2016 taxes. Or, you can direct the IRS to send your federal tax refund to an account rather than to you. These include:

• IRAs, Roth IRAs, or MyRAs
• Health Savings Accounts or Archer Medical Savings Account
• Coverdell Education Savings Account
• U.S. Treasury account for Series I bonds (only up to $5,000)

You can split your refund by completing Form 8888, recouping some of it while applying the balance to one or more of the above types of accounts. If you want the refund to be applied as a contribution for 2015, be sure to file early and instruct the account trustee or custodian of this application. For example, if you want to use your refund to make a tax deductible IRA contribution for 2015, be sure that the return is filed early enough for the refund to be received by the IRA custodian before April 18, 2016. Otherwise, the custodian will apply it for 2016.

5. The IRS can apply refunds to certain debts

Even if you’re expecting a tax refund, you may not receive it. If you owe certain debts, the federal government can apply your tax refund toward them. Such debts include:

• Past-due federal taxes
• State unemployment compensation debts
• Child support
• Student loans

Conclusion

Refunds may seem like a gift from the government, but it’s more complicated than that. Think about refunds and what you need to do going forward. If you’re waiting for a tax refund, you can check it’s status using the Where’s My Refund? tool from the IRS.