Are Tax Refunds Better or Worse in the Economic Downturn?

If you’re getting a tax refund this year, you’re not going to personal finance hell. I think the article on Darwin’s Finance makes some excellent points.

You’re probably not losing a significant amount of income by getting a small refund. Getting the refund as a lump sum makes it easier for some people to save it all (and easier for others to treat it like free money).

The Big Downside of Getting a Refund

But given the economic downturn, it’s a very good idea to see what kind of refund you’re getting this year and figure out whether or not you need to change anything next year. Why? Because governments are feeling the pinch as much as everyone else right now.

This year, at least, the federal government isn’t having a hard time issuing refunds. But states are struggling. Last year, California delayed refunds.

What kind of refund is a good refund? A good refund is one you can live with having delayed. It’s subjective, but I think that your withholding is fine if you’re a couple hundred on either side of $0 (unless your finances are so tight that owing a few hundred in taxes is too much). Getting a refund anticipation loan is one of the worst things you can do at tax-time…it’s even worse than a payday loan.

Shooting for the Middle

I shoot as close to the middle as possible. Because I keep my business earnings in a special account, I’m not worried about my ability to pay—though I don’t want to owe penalties because I didn’t prepay enough throughout the year (taxes aren’t actually due in April after all, April is just when we sort things out).

The goods news is that if you do mess it up one year and end up owing a lot, you still might not get penalized. The IRS has four safe harbor criteria, and if you fall under any of them you don’t end up owing anything more than your regular taxes. So under-withholding won’t completely screw up your life either.

This year we ended up owing about $290 federal and $230 state. That was well-within the $1000 federal safe harbor and ok by the state as well. We also withheld over 100% of what we paid in taxes last year. I wouldn’t have minded if we got a refund either—even if it was delayed we’re not dependent on that for survival.

Do you prefer to get a refund or to owe a little? Or do you shoot for the middle and not care either way? Have your preferences changed since the economy tanked?

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