Use Your Foolish Refund Wisely

Situation Four: You have three months of living expenses saved. You have no credit card debt, no car loan. But you have $10,000 in student loan debt. Your tax refund is $4,000.

Reduce the student loan obligation. But wait, you say, you could invest that money and earn more than the interest rate on the student loans. Or you might argue that it's okay to keep the debt because you get a tax deduction for some or all of the annual interest you pay.

Yes, in theory the math can work out and put you ahead if you invest the money from your return (minus taxes). But you haven't factored in risk and human nature. There is no guarantee that money invested will yield a return that would be substantially greater than the interest you pay on the loan. And I've found people who say they will invest the money but often don't. Yes, you lose the deduction if you pay off the debt, but you save more by not having to pay the interest.

Student loan debt these days isn't cheap. The National Consumer Law Center found in a recent report that the average annual interest rate for private student loans the group examined was 11.5 percent, with the highest close to 19 percent.

As the price of attending college has increased while family incomes, grant aid and federal loans have failed to keep pace, private loan borrowing has skyrocketed and now equals about 24 percent of total education loan volume, according to the College Board.

Situation Five: You have more than enough in cash reserves and no other debt except a mortgage. That was the case with the reader who asked the question about a $7,500 tax refund.

Before paying down the mortgage, consider two more things. If you have children, you might want to boost their college funds or start one. Also, review your retirement savings to determine if you are on track.

If you have substantial savings and are meeting your savings and investment goals in other areas, then attack the mortgage. Generally, by making just one extra mortgage payment a year you will reduce a 30-year loan to about 22 years.

What I'm saying is if you're going to do a dumb thing and keep getting refunds unnecessarily, at least be smart about how you use the lump sum.

¿ On the air: Michelle Singletary discusses personal finance Tuesdays on NPR's "Day to Day" program and online athttp://www.npr.org.

¿ By mail: Readers can write to her at The Washington Post, 1150 15th St. NW, Washington, D.C. 20071.

¿ By e-mail:singletarym@washpost.com.

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