WASHINGTON — After several years of declining use, tax refund anticipation loans could make a big comeback this tax season with poor, cash-strapped taxpayers.
Known as "RALs," refund anticipation loans are bank loans secured by the amount of a person's expected income tax refund. Once a tax return is filed electronically by a commercial tax preparer, a third-party bank can provide the loan to the taxpayer in the amount of the expected refund.
Various costs, fees and finance charges are deducted from the check, which usually arrives in three to five days — or within a few hours for an extra fee of $25 to $39.
In turn, the IRS sends the taxpayer's actual refund check to the bank to pay off the loan.
The combination of widespread money woes, a sour economy and fatter tax refund checks for poor families could entice more people into taking the quickie loans, which have been one of the most pilloried financial products ever marketed.
"There's a whole lot more people living paycheck to paycheck or benefit check to benefit check so I wouldn't be surprised to see RAL usage experience a bit of an uptick this year," said Alan Berube, a senior policy analyst at The Brookings Institution, a center-left policy organization in Washington.
At Liberty Tax Service, the nation's fastest-growing tax preparation chain, sales of refund loans are already running 10 percent ahead of last season, said John Hewitt, the company's founder and chief executive. Of the 100,000 tax returns Liberty has processed to date, the firm has provided nearly 30,000 RALs.
"Some people need that money and don't have any other resources or assets and may not be eligible for normal credit for whatever reason," Hewitt explained.
For those people, refund loans are a valuable option whose prices have fallen in the last few years after heavy criticism from consumer advocates. The average price for a $3,300 refund loan has gone from $100 in 2007 to about $65 today, said Chi Chi Wu, a Boston-based staff attorney with the National Consumer Law Center.
Because the IRS usually repays the loans in one or two weeks, however, that $65 fee works out to an annual percentage rate of 72 percent, which is twice the 36-percent standard rate for small loans, Wu said.
Smaller refund checks have the highest APRs — nearly 500 percent for a $300 refund loan. While larger loans have lower APRs — about 50 percent for a $10,000 refund loan.
That costly rate structure is why Wu and other experts say that refund loans are predatory, overpriced and risky, because if the IRS doesn't pay the anticipated refund, the taxpayer is still on the hook for the full loan amount.
"By any reasonable measure of credit pricing, they're a bad deal," said Brookings' Berube, who's studied refund loans and their usage. He said the IRS now processes most electronic tax returns fast enough to make refund loans unnecessary except in the most dire situations.
"There may be a fraction of taxpayers for whom this is the best and only option for keeping the lights on or to keep from getting evicted, but I don't think that's the case for most people," Berube said.
Even in tough economic times, consumers should avoid the temptation of refund loans, which are marketed mainly to low-income people who are more likely to be needy.
"American taxpayers need every dollar of their refunds, and waiting just a week or two will put more money in their pockets," said Jean Ann Fox, the financial services director at the Consumer Federation of America.
Rhonda Jones of Chicago learned that the hard way. For more than 10 years, Jones, 41, would pay $300 to $500 to get her $4,000-plus tax refund loan within five days. A single mother of five, Jones said she never paid much attention to the high cost.
"I know this doesn't make sense, but this was money that I never saw before. So no matter how much they charged me, I looked at it as a gift," she explained.
In 2004, however, Jones got her taxes prepared at a free tax clinic sponsored by the Center for Economic Progress, which helps low-income families in Illinois. Jones got her return in about 10 days and hasn't bought a refund loan since.
"It made a big difference when I realized how much of my money I could have been saving," she said.
Jones now works for the center, helping others file their taxes. The first free clinic of the new tax season opens on Saturday.
"They'll be lined up around the block," she said. They always are."
Wider use of these events and do-it-yourself tax preparation software have helped slow the growth of refund loans. According to the National Consumer Law Center and the Consumer Federation of America, 8.7 million taxpayers paid more than $900 million in loan fees and other costs associated with RALs in 2007.
By 2008 spending on RALs had fallen to just over $800 million, and the number of taxpayers purchasing the loans had fallen by about 300,000, according to new figures released this week.
However, new higher income thresholds and credit amounts for the earned income tax credit, the nation's largest anti-poverty program, will put an additional $2.3 billion into the hands of eligible taxpayers.
Since people who get the tax credit are already more likely to purchase refund loans, Berube said adding more money to the credit only increases the likelihood.
"People getting a bigger refund are likely to use a RAL. It makes fees look smaller in relationship to the refund amount," Berube said.
ON THE WEB
For more information about free tax preparation sites
Internal Revenue Service Report on the tax preparation industry
The Center for Economic Progress
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