Hey, guys.

It's Chelsea, from The Financial Diet. And this week's video is sponsored by Lili.

Tax day is three weeks away. But I've already done mine. And if you're someone who is looking forward to possibly getting a tax refund this year, especially one that's several hundred dollars or more, it can feel like you totally deserve to blow off steam, and enjoy it, and treat yourself to a night out, or a fancy bag.

Or maybe even a trip. And, while we all deserve to treat ourselves from time to time, and that tax refund money can just feel like magical money coming out of nowhere. It is important to remember whenever we are presented with a lump sum of cash, that we do have an obligation to ourselves to use it both responsibly and in a way that sparks joy.

And with tax refunds in particular, it's important to remember that this isn't just free money, this is money you've already earned that is going back to you. And so, even on a practical level, the desire to treat it as you would even say an unexpected bonus is doubly wrong because it isn't a bonus. It's your own money, that you already earned, that would have just come to you if they didn't preemptively take it out of your paycheck.

But anyway, there are ways to do a tax refund right and still enjoy a lot of it yourself. And of course, if you're a freelancer or a small business owner, tax season can add even more layers of stress. And you deserve to use tools that make doing your taxes as painless as possible.

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Go to lili.co to get started. So without further ado, here's a breakdown of what to do with your tax refund in order of importance for how we recommend you do them. Because let's be clear, most people are not going to be able to tackle all of these with their refund.

Number one is set aside a specific amount for fun spending. It may seem counterintuitive to be setting aside non-essential spending, especially first on the list. But what's really important in enabling you to have sort of the mental energy to do the right stuff with the rest of your refund is to, up front, decide how much you are going to set aside for yourself just to enjoy.

Because, again, it's normal when you have a windfall of cash at once to feel like at least part of you wants to spend that on frivolous. It is well documented that restrictive diets do not work when they're too difficult to sustain. The result is just feeling deprived, depleted, and getting discouraged that it's not working.

And then, for many, giving up altogether. And budgeting is the same way. Hence, the Financial Diet.

If you don't make room in your budget for frivolous spending, like nights out with friends, hobbies, or beauty products, you'll feel like you have to give up all the things you love in life in order to meet your savings goals. But what are savings goals if not a way to live a better life sustainably? With your tax refund, I suggest setting aside a small amount to spend on whatever the heck you want.

I would say no more than 10%, because feeling like you get that free money that you're basically required to spend on fun stuff will help encourage you to do the right thing with the rest of the money, while still feeling like you're rewarding yourself along the way. The second on the list of importance is paying off high interest debt. So when I say paying off high interest debt, I'm generally referring to credit cards or other consumer debt, not things like student loans or mortgage, which may have something like a 3% to 4% interest rate.

Unless, for example, you have high interest private loans in, which case those could also fall into this category. Generally experts will define high interest debt as any debt with an interest rate higher than what you could earn by investing or saving that money. And we'll link you to an explainer on that down below.

Or you could use a debt versus investment calculator to determine whether it makes more sense to focus on your debt before more investing. But typically, when you have a credit card debt with an interest rate in the double digits, it's a good idea to focus on tackling that first. If your tax refund doesn't provide you enough to pay off that high interest debt in full, at least use as much of it as you can to get rid of as much of that debt as you can.

And then use that moment to make a plan for paying off the rest. We'll link you to our explainer video on the best ways to pay off debt. Third is increasing your emergency fund.

Now, I should be clear that if you have no emergency fund whatsoever, saving a little bit is going to be even more important than paying off the maximal amount of high interest debt. But saying you don't have high interest debt or if you have some of your tax refund left over after paying it off, the next suggestion is to pat out that emergency fund. As you may know by now from watching TFD, experts typically advise keeping about three to six months of expenses in your emergency fund.

But with the turmoil over the last few years, I would recommend saving on the higher end of that range or even more if possible. What you save in an emergency fund is ultimately totally personal. And it will depend on a number of factors like family, or others you might be responsible for.

Your health, the steadiness of your income, the industry you work in. Like if turnover is really volatile, et cetera. So we'll link you to a resource for everything to consider when setting up your emergency fund.

But the point is, if you don't have at least three months saved in your emergency fund right now, a tax refund is an incredibly easy way to help pad it out. Number four is contributing more to your retirement account or creating one if you don't already have one. Now, of course, investing is not something that you should only be thinking about when you have a sudden influx of cash, but this is a great time to be taking it even more seriously.

While there's no amount that works for everyone, generally experts recommend trying to save 15% of each paycheck towards retirement. And we know that's out of reach of many, but it is a good goal to work toward. And especially, if you're not able to meet that amount every month, it's all the more important to leverage that extra money to help pad out those retirement savings in things like your 401k or your IRA.

So say you have $500 from your tax refund to invest in your retirement account. Accounting for a 7% interest rate compounded quarterly, that contribution alone will grow to $5,672.68 over 35 years. So even relatively small amounts, when contributed in one go like this, can make a huge difference.

Then, if you have any left over after contributing to your retirement fund, you want to consider contributing to long term savings. Now, long term savings and a savings account-- even high yield savings account, is typically not really doing anything for you in terms of earning interest. But it is really important for those shorter term, but important goals, like, for example, saving for a down payment on a house.

So if you have no high interest debt to pay off, you have a fleshed out emergency fund, and are maxing out your retirement contributions, bonus points if you're maxing out your 401k and your IRA. The next suggestion would be to contribute to a larger or longer term savings goal. This could be anything from saving for a house down payment, like I mentioned, Buying an investment property, taking a big dream vacation, or any other goal that's more than a few years in the future.

Longer term savings can often be the most mentally difficult to save for because they don't earn that great interest like investments do, but they're also not always as immediately rewarding as some of those shorter term savings goals. Now some of the longer term savings, you can be doing with investing accounts. But do be mindful that these should be goals that are not only very far in the future, like at least five or so years.

But also things that don't have a hard deadline on them because if your money is being saved in an investment account, you could have to take that money out at a time that is very bad for the market and therefore see big losses when it comes time to take out your savings. We'll link you in the description to an explainer on whether you should be putting your long term savings in an investment or a savings account. And lastly, if you still have spillover, and honestly, kudos to you if you do, put some of that refund money towards short term savings goals.

So after you've paid off high interest debt, fleshed out your emergency fund, maxed out your retirement contributions, and contributed to your long term savings goals, it's finally time to contribute to short term savings. So this could be something like a vacation you want to take later this year or a down payment for a home that's coming up very soon. Or a new car, or a new computer, or other large purchases that are not something you can make in your day to day budget.

Now, as a reminder, unlike longer term savings, these should always be saved in an actual savings account where you can take the money out immediately, without risk of having it hugely depreciated by whatever is happening in the market at that time. This is where things like sinking funds come in really handy. And we'll link you to a video in the description that talks all about sinking funds and how to use them.

Now, while these are all just suggestions for what we would recommend that you do with your tax refund in relative order, it's a reminder that everyone's situation and needs are going to be different. The point is just to remember that just because your tax refund exists outside of your normal day to day cash flow, does not mean you should take it any less seriously when it comes to leveraging it to help build your financial future. In fact, in many ways, you have every reason to take it even more seriously.

And if you're self-employed/ running a business on your own, you should check out Lili at the link in our description for all of your banking needs. Click that link in our description to open your account in less than three minutes and with no impact to your credit score. That's at lili.co.

And as always, guys, thank you for watching. And don't forget to hit the Subscribe button and to come back every Monday, Tuesday and Thursday for new and awesome videos. Goodbye.