The Check’s in the Mail

With tax season upon us, those who can’t wait to get their federal income tax refund check and are tempted to take out a loan, offered by many tax preparers, to get the money quicker might want to think twice. The loans, officially called refund anticipation loans (RALs), are easy to get but come with interest rates as high as 700 percent. Adding in the fees charged to obtain the loan, the rate can soar as high as 1,800 percent. A $1,000 refund could shrink to as little as $800 over the course of the typical 10-day loan.

These so-called instant refunds cost taxpayers more than $1.5 billion in fees in 2002, according to a recent report by the Consumer Federation of America and the National Consumer Law Center. One in 10 taxpayers choose not to wait for a refund from the Internal Revenue Service, instead opting for a loan backed by the refund as collateral. A small survey by the groups revealed that many who got the quick money did not even realize that they were taking out a loan.

Most troubling is that more than half of those who take out refund anticipation loans are low-income taxpayers, who qualify for the earned income tax credit. Because many of the 7 million families who took out these loans in 2002 also do not have checking accounts, nearly half of them also spent approximately $161 million to cash their RAL checks with check cashers.

To make matters worse, since many of these families qualify for the federal earned income tax credit, the money they spent on fees and interest for these short-term loans effectively came out of the U.S. Treasury. So instead of helping poor working families, the money went to tax preparers, some of them huge corporations such as H&R Block, and check-cashing companies.

Spurred by reports of the usurious interest rates and fees, some states and cities have taken action. Illinois, Minnesota and New York City have enacted new regulations in the past few years requiring mandatory disclosures about RALs. Companies have also taken action. Intuit Corp. discontinued marketing RALs through TurboTax, the nation’s best-selling do-it-yourself tax software program, and H&R Block, the country’s largest tax preparation chain, recently implemented new written disclosures that include side-by-side comparison of RALs and other refund payment options.

While these voluntary and regulatory efforts are helpful, comprehensive national regulations are needed. Such rules should include limits on the fees and interest that can be changed and a requirement that loan terms be disclosed in clear, easy to understand terms. Such rules should come soon because the IRS is under pressure from Congress to have 80 percent of tax returns filed electronically by 2007.

In the meantime, waiting a couple weeks for the refund check itself to arrive will save a lot of money.