Every year, friends and family members compare the amount of money they get back from the government when filing their taxes.
While it’s treated as a badge of honour to get the biggest refund check, this screams about a fundamental misunderstanding of how taxes work.
Why do you not want the biggest refund check?
To answer that question, we need to look at what taxes are, and how they work.
What Are Taxes?
A quick google search will turn up the following definition:
A compulsory contribution to state revenue, levied by the government on workers' income and business profits, or added to the cost of some goods, services, and transactions.
Or more simply put, money that you pay to the government for the privilege to benefit from society.
Most people fail to consider the second element when they discuss taxes. They get too hung up on the what aspect, or paying the government, and fail to consider the why element.
Why are Taxes Important?
Many of the experiences we have in our everyday lives are taken for granted. The roads that you drive on, the parks that you walk through. Schooling, healthcare, and much much more. All of these elements are paid for by the taxes that a government collects.
If you enjoy the benefits of such services, it is your civic duty to pay for those through taxes.
And everyone benefits. For everything that’s occurred in your life, you need to give credit to the country that you are living in. Your country has provided the means to which you have accumulated all you have, in both possessions and experiences.
This is an important distinction that is often missed. The more you have, the more you owe to the country that provided such opportunities. This is why it is often with misguided anguish that people rebel against the idea of the rich paying more taxes. The wealthier someone is, the more they have benefited from society, and thus the more they owe to that same society.
I did not always live with such philosophies. Long before my journey with Business Minded started, I used to rage and rail at paying my taxes. Paying for roads I don’t drive? Healthcare I don’t use? Education that left me with only more questions?
In my self-absorbed way, I had forgotten about the friends and loved ones who also benefited from those same services. I had taken for granted the people whose lives had been saved by that healthcare system. I’d taken for granted the options at the supermarket, brought about by the infrastructure paid and paved by taxes.
And in my shortsightedness, I had overlooked the benefits that others enjoy. I had taken for granted the safety net held beneath me should I fall. I hadn’t considered what life would be like without those loved ones living healthy lives. Even if I wasn’t sick at that very moment, I owe it to my loved ones and to my future self to pay for the services that every day improve my life, and one day could even save my life.
How Do Taxes Work?
Canada, US, UK, Australia, and many other developed nations use a marginal tax rate system. Essentially this means, the more you earn, the higher percentage in taxes you pay on every additional dollar earned.
If you earn $100,000 annually, you will pay the same amount in tax on the first $50,000 as someone who only makes $50,000 annually. For every dollar over $50,000, you will pay slightly more in taxes on those additional earnings.
At no point does earning more money become a bad thing though. If you enter a new tax bracket on that last dollar earned, you only pay additional taxes on that dollar.
Why You Don’t Want a Big Refund Check
If taxes are your contribution to society, and you only pay taxes on the dollars you actually earn, why don’t you want a big refund check? A big refund check at tax time means that you have paid more than you should have throughout the year. That isn’t a bonus to you, rather it means you gave away too much throughout the year.
If you walk into a corner store to buy a candy bar that costs $2. The candy bar doesn’t change in value depending on how you pay. If you pay with a crisp $20 bill, your change will be $18. The change in this example is effectively your big tax refund.
Alternatively, you could have just paid with a toonie ($2), and not received any change. In either case, the candy bar is still the same, and still costs $2.
The difference in this example is how much you paid in the first place. But unlike buying a candy bar, your tax refund takes a year to be returned to you. Instead, you would have paid the store owner $20 for a $2 candy bar, and come back a year later to receive your same $18 in change. You had, essentially, given the store owner an interest free loan for an entire year.
Irrespective of how you pay, the benefit to you is the same. Whether you’re paying $20 for a $2 benefit, or $2 for a $2 benefit, at the end of the day what you’re left with doesn’t change.
Getting a bigger refund is not the ideal situation. Next time someone brags that they have the biggest tax refund, that simply means they were the biggest loser during the year. They lost out on having that money for an entire year, and any associated freedoms and gains that money could have earned.
This year, think not about how much you can get back, but rather think about how much you actually pay in taxes. There are a myriad of ways through which to reduce your tax liability in a beneficial way to you. Paying too much up front and asking for change back is not one of those ways!