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Making The Most Of Your Tax Refund

April 15 is only a little over two weeks away, so The Early Show's resident money maven, Ray Martin, is imparting words of wisdom in a three-part series designed to help as you go through that annual ritual of filing your income tax return.

In part one Wednesday, Martin addressed getting as much money back from the government as possible. He discussed some new tax breaks, as well as others he says you shouldn't miss.

In part two, he told how to stay off the IRS audit list.

In part three, he offers advice on using your tax refund

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The trend over the years has been for tax refunds to increase, and this year appears no different. According to the Internal Revenue Service, the average tax refund is up more than $100 from last year, at $2,548. That's over 50.5 million tax refunds totaling $128.7 billion on the 60.9 million tax returns received by the IRS so far in 2007.

But getting a tax refund is nothing to brag about: You are simply getting the money back from an interest-free loan you gave the government because you overpaid your taxes.

Would you overpay your cable TV bill so you could get a refund of the overpayments a year later? I don't think so. But tens of millions of people, many of whom are in debt, overpay their taxes and wait a year to get their money back. And they are happy to do it.

If this includes you, what you should do is to reduce the current amount of taxes you have withheld from your pay, which will increase your cash flow now and give you a smaller refund later.

But for now, what should you do with this year's refund? Here are a few suggestions:

  • Pay off high-interest debt. One of the best ways you can use your tax refund is to pay down credit card debt. Not only will you reduce your monthly credit card payments, you can save money on the interest you would have paid. If you have several credit cards, pay off the one with the highest interest rate first, then work your way down.
  • Use your refund to make a deductible contribution to an IRA. If you qualify for Retirement Savings Contribution Tax Credit, you can make a $2,000 IRA contribution, get a $1,000 additional tax refund, and save an additional $300 or so on your taxes. Think about it: By contributing $2,000 to an IRA, these folks could receive $1,300 in tax refunds. Dollar-for-dollar, this is the most valuable financial move for folks who qualify and who get tax refunds.
  • Contribute to a 529 College Savings Plan. Open and contribute to one of the state-sponsored college savings plans, where the savings grow and can be used tax-free when withdrawn for qualified education expenses. You may even receive state tax breaks if you contribute to your own state's plan.
  • Pay off a 401(k) loan. Increase the contributions from your pay and use the tax refund to make ends meet while the additional contributions are reducing your pay. You'll be glad you paid off this loan when you change jobs (or worse, lose one), since unpaid loans from 401(k) plans are taxable as income when you leave a job.
  • Build up your emergency savings or a fund for a down payment for a home, by opening a high interest savings account or money market mutual fund, earning at least a five percent interest rate.
  • Make an extra principal payment on your mortgage. By making just one additional payment on a 30 year mortgage each year, you can have the mortgage paid off in about 17 years and save thousands of dollars in interest over that time.
  • Invest in your human capital. Use your refund to add to your education or job skills, which can help to take your career and earning potential to the next level. Sign up for college or technical courses to learn new skills. If you're thinking of changing jobs, pay for a professionally prepared resume and attend a conference or a seminar where you can network with others in your field.
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