Forget spending - here's what you should do with your tax cut

Eleven million Aussies are in line for tax cuts following the Federal Budget release earlier this month. The question now is what to do with it.

The measures are expected to see lower and middle-income earners receive tax relief of up to $2745 for singles, and up to $5490 for dual-income families compared with 2017-18.

The government wants us to spend it to drive economic activity.

"From the government's point of view the tax cuts only provide effective stimulus to the extent that they translate to increased consumer spending," says Rhett Pudney from Apt Wealth Partners.

Personal finance experts think otherwise.

Deal with debt

If you've got debt, pay it off.

"One of the problems in Australia is we have this very high household debt-to-income ratio," says Pudney.

"While each person will have different priorities in times of recession where financial security is front of mind consideration should be given to reducing non-discretionary spending and non-deductible debt."

"This includes effective budgeting to reduce any non-essential spending and paying off credit cards, which usually have very high interest rates."

Certified financial planner Tony Sandercock agrees.

"If you've got some high interest finance like a credit card or car loan, repaying those off as quickly as you can is about the most effective investment you can make."

Invest

"If you don't have debt, then think about your goals, and choose investments that are appropriate for the length of time you have to invest,  together with what level of investment ups and downs you are prepared to tolerate," says Sandercock.

Those with youth on their side are particularly well served by investing. Compound interest is your friend.

"For younger people, the extra money in their pockets is an ideal opportunity to start investing. The earlier you start investing, the longer your money is in the market, hopefully giving you a return, beyond inflation, to set you up for a strong retirement."

Don't stretch yourself

Sandercock warns against spending it before you get it.

"A lot goes into calculating the tax that comes out of you pay cheque each week, so don't second guess it. When the new rules come into effect and you can see the difference in your pay packet, only then will you know how much you are dealing with.

"One potential consequence of people having some extra money in the pocket could be that people are overcommitting financially," warns Pudney.

"There is the risk of further justifying spending more as they have more in their pocket. They are now 'spending more than they earn'."

Budgets are the tool for the job.

"I know budgets are enough to make most people wince, but if you don't have control over your spending, you really don't have control over your financial situation," says Sandercock.

"A budget tells you where your money is going, where you can cut back, and where you can save. And this applies to all of us, as we all have a tendency to spend pretty much everything that we earn no matter what our income level."

Whatever you do, do something

"Whatever you do, don't let it burn a hole in your pocket," says Sandercock.

Never has there been a worse time to just let cash sit there, with interest rates at historic lows.

"Holding the extra money in cash where there is very little return due to the low interest rates leads to the inflationary risk and missing out on longer term opportunities in the equities market," says Pudney.

"Opportunities exist to invest in the money market, hybrid securities and income based managed fund space for higher income returns with only a margin increase in capital risk."

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