IRS Says Taxpayers Should Gear Up for Smaller Refunds in 2023. Here's Why

That's probably not news you want to hear.

Most people who file a tax return end up with some sort of refund on their hands. And often, those refunds are substantial. 

The average tax refund in 2022 was $3,176. And a big reason so many people saw their refunds increase in 2022 was due to generous tax breaks that were applicable to the 2021 tax year. 

But if you got a giant refund in 2022, don't expect the same number in 2023. The IRS is warning taxpayers that their upcoming refunds may be smaller. If you're relying on a huge refund to cover different bills or pay off your credit cards, you may want to figure out a back-up plan sooner rather than later.

Why tax refunds could shrink in 2023

In 2021, Americans were privy to a host of stimulus aid, including a boosted Child Tax Credit. This year, there was no stimulus aid, and the Child Tax Credit reverted to its former (lower) value. That alone could cause tax refunds to drop across the board.

Plus, in 2021, lawmakers allowed tax-filers to claim a deduction of up to $300 ($600 for couples) for charitable donations on a non-itemized tax return. This year, that option is off the table for filers who claim the standard deduction and is only available for those who itemize. And to be clear, most tax-filers take the standard deduction because it makes the most financial sense. 

Why a smaller tax refund isn't a bad thing

The idea of getting a smaller tax refund in 2023 than in 2022 may not sit well with you. But one thing you should remember about tax refunds is that they don't constitute free money. Rather, when you get a tax refund, all the IRS is really doing is returning money to you that you were entitled to at an earlier point in time. 

Now, think about what your bills look like right now. If you were to have more tax withheld from your paychecks, those checks would be smaller -- and you might struggle to cover your expenses. A larger amount of tax withholding might result in a larger refund -- but at the cost of near-term financial stress.

That's why, generally speaking, it's actually not a good thing to get a tax refund worth several thousand dollars. All it means is that you could've collected that money during the year, only instead, you were forced to wait.

Plus, it's not like the IRS pays you interest on your refund dating back to when you should've gotten that money initially. The only time interest applies is if the IRS is late issuing your refund. 

So all told, a smaller refund in 2023 isn't something to get bummed about. You should, however, plan for that by cutting down on spending and perhaps socking more money away in your savings account to cover the expenses you were planning to use your refund for. That way, that smaller number won't constitute a financial shock, and it won't throw your plans for a loop.