“Dear Steve,
I’m a 39 year old single-mom of two, who makes about $30,000/yr. I currently have credit card debt of about $7800. No savings. No 401K.
I usually get a tax refund of around $4000. So, my question is, do I pay off as many credit cards as I can with the refund or do I bring the balances down as much as I can, put some money in savings and come up with a re-payment plan for paying off the credit cards?
Cassandra”
Dear Cassandra,
Wait till you see how simple this is going to be to change your finances for the better.
The underlying issue here is that your tax withholdings are out of whack. You are having far too much taken out of your check each month, when you really need it, if you are expecting such a big refund back.
Letting the government use your money for free when you could be using it to pay off expensive debt is something to be avoided.
I would suggest you put $2,000 in an emergency fund and use the other $2,000 to reduce your highest interest rate debt. If you then go to your HR office and get your withholdings adjusted so you will break even on your taxes at the end of next year you’ll put about $333 extra in your check each month. As long as you can leave a good balance in your emergency fund and not put more debt on the credit cards you can pay off the rest of the credit card debt in less than two years.
Big Hug! 
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Her large refund may have NOTHING to do with her withholdings. Most of the really large refunds come from the Additional Child Tax Credit which has nothing to do with withholdings. Also, the Earned Income Tax Credit is partly responsible for the large refund, and with that credit you can only take some of it throughout the year in your paycheck.
I wish people who gave financial advice would buy a clue as to where most of these large refunds originate from. It, 99% of the time, has nothing to do with a person’s withholdings and has everything to do with these refundable credits.
Her large refund may have NOTHING to do with her withholdings. Most of the really large refunds come from the Additional Child Tax Credit which has nothing to do with withholdings. Also, the Earned Income Tax Credit is partly responsible for the large refund, and with that credit you can only take some of it throughout the year in your paycheck.
I wish people who gave financial advice would buy a clue as to where most of these large refunds originate from. It, 99% of the time, has nothing to do with a person’s withholdings and has everything to do with these refundable credits.
Because she gets Earned Income Credit and 1000 dollars tax credit per child.
Good point. All the more reason her employer shouldn’t withhold any Fed tax at all.
Ok, let me chime in.
Something is wrong here. If you make $30,000, and have two kids, you have a combined standard deduction and exemptions of $19,300 if my addition is correct. (see http://www.fairmark.com/refrence/index.htm for tax chart)
Publication 15 http://www.irs.gov/pub/irs-pdf/p15.pdf from the IRS (Circular E – Employer’s tax withholding guide) shows that with just the 3 withholding allowances, your money withheld should be $38/week on a $600/week income. This is less than $2000 and includes FICA and medicare. How are you getting back $4000 every year? How much is your employer actually deducting? Your total federal tax for the year will barely touch $1000. You should sit down with payroll to figure this out, and then follow Steve’s advice to use the new cash flow to pay off your debt.
Please let us know how you do. I wish you well in the new year.
.-= JoeTaxpayer´s last blog ..The Decade With No Name =-.
Steve, thanks for taking the time to reply to my question. It was very helpful. Regarding the withholdings comment, my current W-4 looks like this: Marital Status-Single; Federal Withholdings-9; No State Income Tax. I was advised that 9 withholdings was the maximum allowance and this would ensure more take-home pay? Your thoughts?
Cassandra,
I’m not a tax advisor so you’d need to speak to one or maybe use the IRS online withholding calculator to figure it out.
Steve