Tuesday, April 1, 2014

Taxes and Retirement

Normally I like to file our taxes early - like in mid-February, so it's done and over with, and any refund we are owed gets to us before the big crunch sets in. This year we were all set to file our taxes when we heard on the news that Minnesota is changing tax laws to more closely align some of the state credits with federal credits - like mortgage interest and student loan interest deductions. This will increase our refund, possibly substantially, but we have to wait until April 3rd to file (or file an amendment later). So we're sitting on them for a few more days, but we've already got plans.

First, we're getting a pretty big refund (a few thousand) from federal. This is partly due to being homeowners and having a kid (and having lots of medical expenses) but I think we could also tweak Peanut's withholding to get this down lower for next year. We were already getting a fairly good refund (a couple hundred) from state, before these new deductions kick in, so we'll see where that leaves us.

We had a couple of options for what to do with that money. We put retirement contributions on hold for a few years what with Baby M's birth and my uncertain working status, so we could put that money into Roth IRAs. Our cash reserve emergency fund is a little low since we spent $6,000 of it on a furnace in December, so we could build that back up. Or we could go to DISNEY WORLD! (Just kidding, we weren't really considering that possibility.)

So really it came down to retirement vs. emergency fund. And we finally decided to combine them. We are maxing out our Roth IRA contributions this year (using our tax return as well as money we've been setting aside) and we are also considering that money to be part of our emergency fund.

With Roth IRAs, you can withdraw your contributions at any time without penalty or taxes. You can't take money out and then put it back again, like you have to do with a 401(k) loan, but you can get that initial money back if you need it. There are some limits, like if your holdings lost value, you can only withdraw up to that lower value instead of your original contribution. But on the whole, not all the money in a Roth IRA is tied up until retirement.

Our entire emergency fund will not be in our retirement accounts, and we will continue growing our liquid savings as much as possible this year, but we were not comfortable taking yet another year off this use-it-or-lose-it retirement opportunity. Our savings account contains emergency funds as well as funds earmarked for things like car repair and computer replacement, plus we have several thousand dollars available on credit cards which we could use to cover the time between when we have some emergency and can get the money out of the Roths (which could take a few business days). I would prefer to have a heavily-padded cash savings account AND contribute to retirement, but I also prefer to have Baby M home with me where she's less likely to get sick during these first few critical years - so this is a good compromise. (Also, I find that having a lower balance in my savings account makes me spend less money and focus on trimming spending wherever I can, so that's a win, too.)

Are you getting a refund from taxes? What are you doing with it? 

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