 |
|
To print article, click Print on your browser's File menu. Go back |
|
|
Recent articles by Bankrate.com: • Uncle Sam's gift to disaster victims: a tax break, 1/4/2006 • Does Uncle Sam have a check for you?, 1/3/2006 • 8 offbeat ways to pay for college, 1/1/2006 More... |
|
Related Articles 10 new and improved tax breaks 9 most overlooked tax mistakes Related Resources Prepare and file your 2005 taxes online Want to know if youre getting a refund? Try our tax estimator Looking for deductions? See our deduction finder Small steps can help cut your tax bill now Do your taxes and keep the auditor away |
| The Basics | |||||||||||||||
| Get your tax refund now -- for a hefty price | |||||||||||||||
|
It's tempting. Sign a form, pay a fee and walk out with the cash Uncle Sam owes you. But tax-refund loans often come with interest rates that would embarrass loan sharks. By Bankrate.com Millions of Americans look forward to tax season. They're getting refunds and desperately need that check from the Internal Revenue Service. In fact, many are so cash-strapped they don't even wait for Uncle Sam. They turn instead to refund anticipation loans. You've seen the ads. Simply sign a form with your tax preparer when filing your taxes, pay a fee of between $35 and $90 and walk out with up to $5,000 cash against your coming refund check. What you may not notice is the exorbitant annual percentage rate on that loan. But consumer groups have. They say these short-term, high-interest loans prey on the very people who can least afford them.
Critics of refund loans, as the loans are commonly known, point to the disparity between the tax advances and other credit offerings aimed at wealthier customers. Tax preparers, both independent operations and major chains, charge interest rates that can run on an annualized basis well into triple figures, all for the privilege of getting money a few days earlier. The IRS further mitigates the risk to lenders with its Debt Indicator service, alerting them to any claims (child support, unpaid federal student loan) against refund-loan applicants' refunds. "It's an outrageous rate for a really short-term loan which, by the way, is a fairly low risk to the lender, and it's an even lower risk because the IRS helps them flag who is going to present a risk," says Chi Chi Wu, staff attorney for the National Consumer Law Center. "Yes, it seems like a small amount of money and it would be if this were a one- or two-year loan, but it's not. It's a 10-day loan. That makes all the difference in the world." Sidestepping interest caps Just how do refund loan lenders get away with the high interest rates? Major tax preparers circumvent state usury rate caps (usually 36% APR or less) by partnering with banks chartered in states such as South Dakota and Delaware that have no caps. The 500-pound gorilla in the refund loan market is Household Bank, a partner with H&R Block among others. But tax preparers are by no means the only refund-loan vendors. Car dealers have applied anticipated refunds toward auto down payments, joining check-cashing services, retailers, Internet sites and tax-software companies in promoting the loans as tax-season incentives to get more business. And it's not always someone needing rent money who signs up for a refund loan. Car dealers employ the tax-advance loan concept because it pulls in buyers. Tax preparers say the loans also are popular ways for impatient taxpayers to pay for vacations, large appliances or home entertainment systems. The lending company Household International is the nation's leading servicer of refund anticipation loans and handles the product through thousands of tax preparers. The company is well aware of the criticism surrounding the product. "Household understands that a refund anticipation loan is not the right option for everyone," says Mark Friedlander, director of the company's public relations. "Thus we strive to ensure that every customer has the resources they need to make a fully informed decision about whether or not to use the refund anticipation loan product." To that end, says Friedlander, his company has instituted mandatory loan provider training, customer hotlines and financial education resources for customers. A vicious cycle But refund-loan opponents contend that the biggest market for the loans is the working poor. A report by the NCLC and the Consumer Federation of America, found that 4.32 million taxpayers, or about 40% of the 12 million refund loan customers in 2000, were families who received the Earned Income Tax Credit, the largest federal poverty assistance program. These taxpayers are typically caught in the vicious cycle of circumstances that enable refund-loan providers to take a loan-shark-size bite out of the filers' limited funds. Although their income may be minimal, the paperwork to receive the EITC is not. The tax forms and computations are especially challenging for those facing education, literacy and language barriers. As a result, EITC-eligible filers frequently use a commercial tax preparer. Once there, many opt for a refund loan to pay their tax-preparation fees, never realizing that it is a loan and not the refund itself. In addition, many of these same taxpayers are without commercial bank accounts. A refund loan creates a one-time-use account into which the taxpayer's refund is directly deposited by the IRS -- and from which the lender takes its share before delivering the balance to the customer. Making the poor pay more "There are people who don't get their full tax refund and if you are in that small percentage, now you're in a lot of trouble because you've borrowed $2,000, $3,000, $4,000 and you can't pay it back," says Wu. "These are people who are living paycheck to paycheck." The CFA-NCLC study estimates that refund loans drained about $324 million from the EITC program in 2002. Based on national averages, an EITC borrower could expect to pay $267 in fees for refund loan, electronic filing, check cashing and tax preparation fees to obtain a $1,600 refund. "This is the only federal poverty program where the cost of distribution is imposed on the recipients," says Jean Ann Fox, CFA director of consumer protection. "It's very cheap for the government to distribute the EITC because they have put the applicants in the position of having to pay a commercial entity to help them apply for it." It has even been suggested that the IRS itself has been a passive advocate of refund loans. Under a mandate from Congress, the IRS must expand electronic filing to 80 percent of filed returns by 2007. To further this process, this tax season the IRS partnered with commercial preparers to provide free electronic tax preparation and filing. Since some of the companies in the program, known as the Free File Alliance, market refund loans, consumer groups urged the IRS to offer direct e-filing through its Web site or at least prohibit its commercial partners from offering refund loans. It did neither. In announcing the e-filing partnership, the IRS deferred to private industry's "expertise and experience" in electronic tax services. As for the loans, IRS Director of Electronic Tax Administration Terry Lutes said the agency has never endorsed or encouraged refund loans. "They have a long history and existed before e-filing," said Lutes. "But the point we want to emphasize is that companies that do offer them cannot advertise them as refunds; they are loans. We emphasize that e-filing gets you the money fast. Refund loans may beat it, but by just a few days." Refund loan opponents view the government position skeptically. "There is no evidence that Congress has any concern about the entire area of predatory financial services that strips wealth from their constituents that can least afford to lose any money to the sharks," says Fox. "The IRS has a huge incentive to cast a blind eye to what is going on in the refund loan market." And consumer advocates worry that involvement in the free file program could make some taxpayers sitting ducks for sales pitches. Following the free file launch three years ago, Fox specifically expressed concern that "taxpayers who use these so-called 'free services' will be a captive audience for commercial tax preparers to sell outrageously expensive refund anticipation loans." Community activists continue to monitor the loans and their sellers, regardless of whether the tax companies participate in the Free File Alliance. The Association of Community Organizations for Reform Now (ACORN), the advocacy group for low- and moderate-income families, protested outside more than 60 Liberty Tax offices in early February demanding the tax preparation company change its RAL sales practices. The protests come on the heels of a January announcement by ACORN that it had formed a partnership with H&R Block, in which the tax preparer eliminated the administrative fee it charged to RAL customers and improved the disclosures it gives to customers. The community organization also is negotiating with the Jackson Hewitt tax preparation firm on its RAL practices. A loan past its prime? Some say the refund loan is living on borrowed time. They see the industry vanishing as technology and e-filing cut the time it takes for the IRS to get your refund to you. "The IRS is claiming they will be able to turn around refunds in two or three days in a few years if you file electronically," says Wu. In the meantime, activists in major cities combat refund loans on several fronts by working to shore up free tax filing services such as Volunteer Income Tax Assistance (VITA) and Tax Counseling for the Elderly. They also encourage lower-income taxpayers to file for the EITC and open bank accounts to speed their refunds. "These are ways to meet the needs of consumers who are eligible for the EITC without them having to spend hundreds of dollars to get their taxes prepared and file for a loan in order to have the out-of-pocket money to get their taxes done," says Fox. "We need to break the cycle somewhere until the IRS figures out a way to get everybody their refund immediately." | |||||||||||||||
| |||||||||||||||
MSN Money's editorial goal is to provide a forum for personal finance and investment ideas. Our articles, columns, message board posts and other features should not be construed as investment advice, nor does their appearance imply an endorsement by Microsoft of any specific security or trading strategy. An investor's best course of action must be based on individual circumstances.