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How Your Tax Refund Can Affect Your Credit Cards

15 May 2011 by CreditCardsCo™

In this very unstable time, you often have to get creative to find ways to cover your bills and other expenses. Once a year, though, luck is on your side because your tax return could be substantial enough to help you.

Debt is very common in America. In fact, it is the basis for the entire economy, even though many people like to stick to cash. Whether you have one credit card for emergencies or you have opened several accounts to handle things like a new car or home, you can't deny its prevalence.

Unfortunately for many people, handling credit is a big issue. Sometimes this is because they get in over their head and cannot recover. Sometimes even responsible credit users have to deal with problems because money suddenly becomes very tight. This could be due to a medical or financial emergency or a layoff.

Regardless of how much credit you have or how well you handle it, your main goal should be to eliminate it all as efficiently as possible. Many people have found that using their tax return to take care of their credit cards or other financial liabilities can be a big step towards that goal.

The Facts

Whether you are dealing with credit issues or are having no problems at all, using your tax refund to pay off credit cards is always a good idea. There are many reasons why this is a good idea:

  • Nearly half of all Americans carry a credit card balance
  • In 2008, the average credit card balance was over $8,000
  • In 2009, the average tax return was over $3,000
  • Risk-free investment
  • Credit card interest is NOT tax deductible

As you can see, when you crunch the numbers, using your tax return to take care of your credit card debt can make a big difference in your final net worth. Since credit card interest is not tax deductible (like, say, student loans, or even your mortgage), the money that you spend by paying the minimum balance every month ends up being wasted on interest. Of course, these numbers continue to grow every year, which means that more and more people would probably benefit from this strategy.

Interest Rates and Credit Liability

Speaking of interest rates, the more you pay attention to them, the better off you will be. For example, many people don't realize that their card might have a variable rate, which means that it can change quite often. New credit card laws require that your financing institution give you at least 45 days of notice before they increase your rate, but that's still not a lot of time to decrease your balance if you are only making the minimum payments.

However, if you can make a large payment at least once, like with your tax return, you could save yourself a lot of trouble later. What you might not realize is that your credit liability, which is what credit issuers use to determine your worthiness for more credit, is based on how much total credit is issued to you versus how much you have remaining. With skyrocketing interest rates, a small purchase that you made a year ago could have doubled in size, which decreases your available credit and increases your liability. This, in turn, could make it more difficult for you to get more credit if you so desire.

Balance Transfers

Many people like to take advantage of credit cards that have a 0% balance transfer option. This is a great way to reduce your interest rates while trying to pay down your existing debt.

Of course, these options are almost always introductory, which means that after the introductory period of 3, 6, or 12 months expires, you could be looking at a substantially higher rate. Indeed, you cannot really start reducing your debt until you ultimately stop accumulating it. Thus, if you plan accordingly and use your tax return to take care of at least this aspect of your debt, you could also find yourself saving a great deal of money.

Final Word

Using your tax refund to pay down your credit card debt is often a good idea. It decreases your credit liability and reduces the amount you pay in interest. Also, it is a risk-free investment because it will directly affect your bottom line.

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