10 Smart Ways To Spend Your Tax Refund

While some people think of a tax refund as “free money,” that’s not exactly the case. You get a tax refund when you pay more income tax than you owe. This can happen if your employer takes off too much tax through payroll deductions, if you make contributions to your RRSP or if you have eligible deductions or tax credits.

Your tax refund is the difference between the total tax you owe and the total income tax deducted from your earnings, plus any refundable tax credits you are entitled to.

For a more detailed explanation on tax refunds (including how to get the biggest one possible), Forbes Advisor Canada has this in-depth guide on How Tax Refunds Work In Canada.

We also have a tool to help you figure out how much income tax you’ll owe for the 2023 tax year. Find our Income Tax Calculator here.

As long as you file your 2023 tax return on or before the April 30, 2024 deadline, you should receive your notice of assessment and refund (if you’re eligible for one) within two weeks when you file online and within eight weeks when you file a paper return.

If you’re anticipating a tax refund, or already have one in hand, here are some ways you can spend it. While these ideas don’t involve concert tickets, vacations or designer clothes, they will put you ahead financially in the long run and give you peace of mind instead.

• Pay down consumer debt. Total credit card debt in Canada rose almost 16% year-over-year, from just over $100 billion in 2022 to $116.2 billion in 2023, according to Equifax Canada. The average balance of credit card holders in the third quarter of 2023 rose to $4,119, up 10.5% from the year before. And while average credit card spending rose by 2.2% compared to a year ago, average payments only increased by 1.7%. A credit card can be a useful tool to manage your spending (and get benefits such as cash back and other rewards), but if you carry a credit card balance, or only make the minimum payments, you’ll end up paying interest each month—and with APRs averaging 21%, that can add up quickly. When you pay down your credit card balance, you’ll reduce the amount of interest you’ll pay over time, while improving your debt-to-income ratio and your credit score. If you don’t have any credit card debt, you can use your refund to pay down any other outstanding loans, such as a car loan, student loan or personal loan.
• Make a prepayment on your mortgage. If you have an open mortgage, you can make prepayments (or pay extra) on your mortgage without any penalties. However, with a closed mortgage, there’s a limit on how much extra you can pay each year. Your mortgage contract will outline how much money you can prepay on an annual basis, known as a prepayment privilege. In general, your prepayment privilege allows you to increase your regular payments by a certain amount or make a lump-sum payment up to a certain amount. If you don’t have other outstanding debt with higher interest rates, prepaying your mortgage can be a smart way to use your tax refund as it goes directly to the principal portion of your loan.
• Contribute to your RRSP. The CRA uses your taxable income to determine how much federal and provincial/territorial income tax you pay depending on what tax bracket you fall into. When you contribute to an RRSP, you’ll help build your retirement savings and you’ll reduce your taxable income. So, if your taxable income is $60,000, meaning you’re in the 20.5% federal tax bracket, if you contribute $7,000, you’ll drop to the 15% tax bracket that has a maximum income threshold of $53,359 for the 2023 tax year. Your contribution can then be used the following tax year as a deduction. For the 2023 tax year, you can contribute up to 18% of your earned income from the previous year, to a maximum of $30,780.
• Start an emergency fund. A common rule of thumb is to have three to six months of your living expenses in an emergency fund. You could hold a guaranteed investment certificate (GIC) as part of your emergency fund, but it’s a good idea to choose a cashable or redeemable GIC so you can withdraw your money when you want to without any financial penalties. Another option is to deposit your tax refund in a high-interest savings account that offers interest rates of 2.5% or higher to help grow your savings faster.
• Open a Tax-Free Savings Account: A tax-free savings account, or TFSA, is a registered savings and investment plan for people age 18 and older. Unlike an RRSP, contributions are not tax deductible, but any amount deposited in a TFSA, as well as income earned in the account (such as capital gains or investment income) is tax-free, even when funds are withdrawn. The maximum amount you can contribute to a plan is limited by your TFSA contribution room. If you are 18 or older in 2009 (when the plan started), your contribution room grows each year based on each year’s annual limit. If you turn 18 after 2009, your contribution room starts in the year you turn 18. The annual TFSA dollar limit for 2024 is $7,000.
• Save for post-secondary education. A registered education savings plan (RESP) allows parents (and other eligible subscribers) to save for a child’s education. A huge benefit of an RESP account, besides the tax-free growth, is the federal government’s Canada Education Savings Grant, or CESG. This matches a percentage of contributions, up to a lifetime maximum of $7,200. While there are different CESG income thresholds that affect your yearly maximum, in general, you can receive a grant worth 20% of your first $2,500 contribution, or $500.
• Build your investments.  If you have a sizable refund, you can grow your money by investing it. While a smart portfolio is diversified across many asset classes, such as mutual funds, bonds and stocks, more experienced investors (or those who can stomach greater volatility) could even invest in gold or cryptocurrency, such as bitcoin, or more likely a bitcoin ETF as one bitcoin is currently trading at around $95,000. A financial advisor or robo-advisor can help you make educated decisions to help you reach your financial goals and make the most of your tax refund.
• Establish a First Home Savings Account: Saving  a downpayment for your first home can be daunting. However, a tax-free First Home Savings Account (FHSA) combines the benefits of a TFSA and an RRSP to help you get closer to buying your dream home. With a FHSA, you can save up to $40,000 (or $8,000 per year) without accruing any tax. Like an RRSP, contributions to a FHSA are tax deductible, which can reduce  your taxable income and help you get an even bigger tax refund next year.
• Donate to a charitable organization. When you make a donation to one of Canada’s 86,000 registered charities, you can help fund a cause that you care about and get an official donation receipt that you can use for a tax credit. However, according to a recent Ipsos poll conducted for online fundraising and donation platform CanadaHelps, only 56% of Canadians who made charitable contributions last year intend to claim these receipts on their 2023 tax return, which means those who won’t may be missing out on the benefits of charitable giving. You can receive a 15% non-refundable tax credit on your first $200 donated and 29% on donations made over $200. You can carry forward donation amounts and spouses/common-law partners can combine their donations, so the person with the highest income can claim the tax credit. However, the maximum donation credit you can claim is 75% of your net income for the year.
• Invest in yourself. While enrolling in a class, upgrading your skills or launching a side gig won’t immediately create a return on your investment in the same way as if you invested your tax return directly, it can potentially boost your income in the long run. There may be tax credits to help with the cost too, such as the Canada training credit, which is a refundable tax credit that can help with tuition and other fees.

If you want the biggest tax refund, you need to maximize your tax return. Here are five ways to maximize your tax return to pay the least amount of tax or get a refund:

1. Enter all of your personal information and dependents. There are tax breaks depending on the number of dependents and their age, for example.
2. Make sure you claim all your tax credits to reduce the amount of tax you owe.
3. Claim all of your tax deductions to reduce your taxable income.
4. Optimize your deductions that have certain thresholds. For example, you get a bigger tax credit on charitable donations over $200.
5. Include any carryforwards, such as unused RRSP contributions or tuition credits.

While doing your taxes can seem like a hassle, getting a tax refund is definitely a welcome reward. And when you use your tax refund wisely, it can turn into an even bigger reward.