Consumer Beware: Refund Anticipation Loans

A Refund Anticipation Loans (RAL) is short-term debt that a taxpayer may take on when expecting a refund on federal taxes. Although RAL lenders charge what seems like a small fee, consider that a $60 fee on a $1,000 refund amounts to 6% monthly or a 72 percent Annual Percentage Rate (APR)!
RALs are just as bad as payday loans, although they receive less negative press. The short time period in the transaction and the exceptionally low delinquency rates mean that taxpayers get the loans, the refund goes through and the transaction is soon forgotten.

High Profit, Low Risk Loans Benefit Tax Preparation Firms, not Consumers

But just like payday loans, RALs are high-profit earners with very low risk for lenders. Charging excessive interest rates on loans that are almost guaranteed to be paid back is unconscionable. Add to that the fact that consumers often receive their refunds in only a few days, rather than the few weeks the government estimates, consumers are paying high rates for a loan that was probably never needed in the first place.

RALs Prey on Low Income Consumers

RAL lenders prey on low income earners. In 2006, more than half of all RAL customers were Earned Income Tax Credit recipients. This means they were low wage earners. Lenders often exaggerate the time it takes to receive a refund from the federal government, baiting uneducated, low-income consumers to taking a loan.

IRS Making RAL Loans More Difficult

Luckily, change is coming to the market that will protect these vulnerable consumers. The IRS plans to make RALs more difficult beginning in 2011. The government agency used to provide lenders with “debt indicators,” red flags that ensure tax refunds are not issued to taxpayers who have outstanding debts like unpaid student loans, back taxes or unpaid child support. Lenders used these red flags to weed out consumers who were unlikely to pay back the RAL.
The change ensures that only the IRS has access to debt indicators. Tax preparation services will have to offer loans based on the consumer’s credit score instead. The hope is that tax preparation firms will stop offering such expensive loans because of the heightened risk of default.

Refund Anticipation Loans are Often Unnecessary

The truth is that e-filing allows consumers to receive federal refunding deposited directly to their bank accounts within just a few days. Imagine how much money you could save by waiting to spend the money that you have coming.
You could be spending it on something that you could enjoy rather than buying groceries. Spending less through sales, couponing and rationing would get you through the time and the cost would be a lot lower. Instead of putting you behind, the time you wait put you ahead.