The majority of taxpayers will get a refund this year after they file their income taxes, and chances are that the refund won't be chump change. We received an email from a Fool reader about how these refunds often quickly disappear: "What do you suggest for a friend of mine who gets $3,000 to $4,000 each year and has virtually $0 a few days later?"
A friend, eh? If you say so.
First, just how much does your "friend" like the IRS, anyway? Enough to lend it thousands of dollars a year, interest-free? Believe me, the IRS doesn't need it. Your friend must really like those big refund checks, and probably uses the IRS as a kind of savings club to fund a spring bender each year. To each his own. But a far, far better idea would be to adjust his withholding allowances so that the money isn't being taken out of his check to begin with. That needs to start now, not next spring.
Then comes the tricky part. Keeping the money out of his checking account, so it doesn't go bye-bye before he even realizes it's there. Fortunately, there are any number of brokerages, banks, and mutual fund companies willing to spirit that money out of his account and put it to work. Most banks will set up automatic transfers from checking to savings accounts, and virtually all brokers (we recommend the discount variety) will set up an automatic deposit program where (with your permission) they snatch that cash out of danger and stash it safely in some kind of investment. Even a plain money market account would be an improvement on the current plan. But there are better options.
If your friend hasn't joined his 401(k) plan at work, that's a logical place to start, especially if his company matches contributions. If he's already taking full advantage of his 401(k) at work, but doesn't have a Roth IRA and qualifies for one, that would be the first place to stash the cash. But since the maximum contribution for an IRA is $3,000, he might have some cash left over, unless he's married and his spouse also qualifies for a Roth IRA -- then up to $6,000 can be stashed away to grow tax-free.
If he has adequate rainy-day savings, the extra can go into short-term savings for his next spring bender ... uh, we mean next major purchase.
Your friend may not be crazy about giving a broker the ability to automatically withdraw a set amount from his checking account every month. Some people find that idea disturbing, but we don't find it any more disturbing than letting the IRS hang on to all that cash for a year -- and then blowing it.
And, if you have any questions as you complete your return, drop by our Tax Center.