How to Use Your Tax Return to Build Credit

The average tax refund in 2023 was $2,903. And while getting a tax refund often means you overpaid to begin with, that hefty chunk of change hitting your bank account can spawn some great feelings. Before you drop all that dough on your next vacation or an impulse buy, consider whether you can do something more responsible with it.

For example, did you know you can use your tax refund to build credit?

6 Tips for Using a Tax Refund to Build Credit

1. Pay Down High-Interest Debt

One of the most impactful ways to use your tax refund to build credit is by paying down high-interest debt, such as credit card balances. High credit card balances relative to your credit limits can negatively impact your credit utilization ratio, which is a significant factor in your credit score.

2. Catch Up on Past Due Payments

If you’re behind on any bills or loan payments, consider using your tax refund to catch up. Payment history is the most critical factor in determining your credit score, accounting for about 35% of the total score. Making timely payments demonstrates your creditworthiness to lenders and can help improve your credit score over time.

3. Open a Secured Credit Card

If you have poor credit and know that everything on your credit report is accurate, you may need to take some other actions to build credit in the future. One option is applying for a secured credit card.

A secured credit card requires you to put a deposit down to secure your line of credit. That’s where your tax refund comes in. Once you use the card and make timely payments for a certain period of time, you may get your security deposit back. You could also get approved for a higher credit limit and/or lower interest rate. And all those timely payments also get reported to the credit bureaus, which can be good for your score. Make sure to choose a card that reports to all of the major credit bureaus.

4. Invest in Credit-Building Products

Consider investing in credit-building products, such as credit-builder loans or secured installment loans, with your tax refund. These products are designed specifically to help individuals establish or improve their credit profiles. By making regular payments on these loans, you demonstrate responsible credit behavior, which can positively impact your credit score.

Credit builder accounts are locked savings accounts that work somewhat like loans. The exact way they work varies, but the concept tends to be the same:

You secure a “loan” with a deposit. That deposit is put into a locked savings account and held for you.
You pay the loan as agreed, typically making monthly payments.
The on-time monthly payments are reported to the credit bureaus, and this helps build your credit.
Once you pay off the loan, the savings account is unlocked and you get access to that money.

5. Start an Emergency Fund

While it may not directly impact your credit score, using a portion of your tax refund to start an emergency fund can indirectly help you build credit. Having savings set aside for unexpected expenses can prevent you from relying on credit cards or loans in times of financial hardship. This reduces the risk of accumulating debt and missing payments, which can negatively affect your credit score.

6. Check and Monitor Your Credit Report

Okay, so you don’t technically need to use any of your tax refund for this but regularly checking and monitoring your credit reports is the best thing you can do to stay on top of your credit.

You’re entitled to a free copy of your credit report from each of the three major credit bureaus (Equifax, Experian, and TransUnion) once a week through AnnualCreditReport.com.

Using your tax refund wisely can be a powerful tool for building credit and improving your financial well-being. Remember, building credit takes time and consistent effort, so be patient and stay committed to your financial goals. With the right strategies in place, you can use your tax refund to take control of your credit and pave the way for greater financial stability.

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