Similar to predatory payday loans, refund anticipation loans (RALs) are short-term cash advances against a customer's anticipated income tax refund offered at interest rates ranging from about 50% to over 500% APR.
Refund anticipation loans (RALs) are bank loans arranged through tax preparers against a filer's anticipated income tax refund. Marketed as a quick way to receive one’s tax refund, the loans speed up the refund process by only a few days if any, and incur fees that equate to an APR of 149% to 250% or more--to borrow one's own money.
According to a study by the National Consumer Law Center and the Consumer Federation of America, refund anticipation loans drained the refunds of about 7.2 million taxpayers in 2009, costing them about $606 million in fees. The bulk of these fees comes from low-income taxpayers with recipients of the Earned Income Tax Credit (only about 17% of individual taxpayers in 2009) representing 64% of RAL consumers.
Learn more about RALs in our Research and Analysis section
There are alternatives to RALs: Taxpayers who file online and have their refunds deposited directly into their banking accounts can expect their refunds to be deposited in as little as 8 days.
The Internal Revenue Service continues to work hard on reducing refund processing time, and to find solutions for speeding refunds to unbanked taxpayers. For the 2011 tax season, 600,000 low and moderate income tax filers were invited to participate in a U.S. Treasury Department pilot program intended to offer a quick, safe and convenient alternatives, such as low-cost debit cards. Also, last year the IRS announced that it would no longer provide debt indicators used by tax preparers underwriting RALs. J.P. Morgan Chase, one of the top-three issuers of refund loans, voluntarily pulled out of the market.
Chasing Fees, Banks Court Low-Income Customers
New York Times (04/26/12) P. A1; Silver-Greenberg, Jessica; Protess, Ben
Large U.S. banks increasingly are striving to land low-income customers with alternative products that can bear high fees -- including prepaid cards, check-cashing services, and short-term emergency loans -- partly because such products are largely excluded from recent financial regulations. Kimberly Gartner of the Center for Financial Services Innovation says unbanked or underbanked borrowers are a $45 billion untapped market. Consumer advocates and some federal regulators worry that banks are corralling lower-income people into expensive financial options when lower-cost alternatives are available. "It's a disquieting development for poor customers," according to former Federal Reserve Bank examiner Mark T. Williams. "They are getting pushed into high-fee options." There is particular concern about the payday loans now being offered by a select group of banks, which, according to the Center for Responsible Lending, in some cases add up to a 300 percent annual interest rate. Prepaid cards, criticized for steep fees and poor disclosures, are another big movement in banking. The Mercator Advisory Group estimates that consumers held about $29 billion in prepaid cards in 2009, and the market is expected to total $90 billion by the end of 2013. The Consumer Financial Protection Bureau said it is looking at whether banks breached consumer protection laws in marketing some of these products. "We look at alternative financial products offered by both banks and nonbanks through the same lens -- what is the risk posed to consumers?" said CFPB head Richard Cordray. "Practices that make it hard for consumers to anticipate and avoid costly fees would be cause for concern."
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Good Riddance to the Tax Refund Loan
Reuters (04/17/12) ; Wright, Kai
Refund anticipation loans are among the financial products that rely on low-income communities that may not have access to fair credit or traditional banking products. More than 90 percent of people who applied for these loans in 2010 were low-income, according to IRS data. The refund anticipation business took off around 2000 after the IRS reintroduced the debt indicator, which allowed lenders to check whether a borrower had any debts that would put a refund in jeopardy of being seized. By partnering with larger banks, tax preparers that advanced refunds at high interest rates could be protected against state usury laws by claiming to be agents of the banks. In the summer of 2010, the IRS shut down its debt indicator tool after reports of fraud and misuse among loan programs. Thanks to renewed regulatory oversight, as of this past April 30, refund loans are no more. Still, many low-income urban neighborhoods have a “payday alley” full of storefronts offering high-interest loans against a consumer's paycheck. Research has established that these loans can be debt traps that keep borrowers in a cycling of new loans. As consumer advocates and state lawmakers work to limit these lenders, five national banks have stepped in to fill the gap with checking account “advance” products. A group of 250 consumer advocacy groups and civil rights organizations have written to warn bank regulators of these new products. “It took a while on refund anticipation loans,” says Kathleen Day of the Center for Responsible Lending. “It took a while – and a recession – before they did their job on mortgage lending. And our basic message is we don’t want them to wait” on bank payday lending.
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Instant Tax Service Accused of Fraud
CBS 2 Chicago (04/16/12) ;
The Better Business Bureau (BBB) has received warnings about many tax preparers, including Instant Tax Service in Chicago. A radio commercial for the service promised $1,000 to people filing their taxes. Rita Vigil went to Instant Tax Service seeking the $1,000 and was actually promised a refund of $7,178. However, when she received her refund check, "it was a $589 difference," she said. Instant Tax Service representatives have referred questions to its corporate headquarters in Dayton, Ohio, where it fields complaints from across the United States. Consumers have filed about 800 grievances with the BBB against the firm. BBB President Steve Bernas warns taxpayers to be careful of refund anticipation loans. "It’s not your money," he explains. "It’s actually a loan, so you’re going to pay upwards of 30 to 40 percent APR, which can equate to thousands of dollars that you’re just losing." The U.S. Justice Department has filed a federal lawsuit to shutter Instant Tax Service for intentionally preparing and filing fraudulent tax returns, while charging high fees to do so.
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Tax Refunds Being Used to Pay for Bankruptcy Filings
USA Today (04/12/12) ; Dugas, Christine
According to a recent study by the National Bureau of Economic Research, more than 200,000 cash-strapped households will use their tax refunds this year to fund bankruptcy filing and the legal fees associated with it. While it is normal for personal bankruptcy filings to spike around this time of year, the trend has been more pronounced since the cost of filing surged under new laws in 2005. The study found that many more families have had to postpone filing until they can afford to pay the high fees. The average cost of legal and administrative fees related to bankruptcy filings soared from $921 in 2005 to $1,477 in 2007, according to the U.S. Government Accountability Office. Legislators changed the law to reduce bankruptcy abuse by people who could afford to pay off their debts, but did not want to. "But if you want to curtail abuse, raising the cost is not a good way to do it," said Jialan Wang, assistant professor of finance at Washington University in St. Louis and one of the study's authors. "The people who really need bankruptcy are the ones who will be unable to pay for the fees."
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High-cost car title loans, refund anticipation loans and auto loans plague people with limited resources, making financial stability difficult to achieve.
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