Tax Hacks 2012: Kiss Refund Loans Goodbye

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The average tax refund was just under $3,000 last year, and some people just couldn’t wait to get it – so they didn’t. And they paid for it.

Millions applied for what are called “refund anticipation loans.” These are high-cost, short-term loans targeted mainly at the working poor. The fees they charge work out to an annual percentage rate of more than 100 percent – simply to let you use your own money a few days sooner.

Fortunately, these things are on the way out, as we first explained in Death of the Refund Anticipation Loan? a year and a half ago. According to the National Consumer Law Center, this tax season is the last time any large-scale nationwide tax preparers will offer RALs.

In the video below, Money Talks News founder and CPA Stacy Johnson celebrates a little – and then explains why consumers don’t even need these loans. Check it out, and then read on for more…

Why RALs are dying

Stacy has criticized these loans – from major tax preparers like H&R Block and Jackson Hewitt – for the past decade. (He’s also recently argued that most people don’t even need tax pros.)

So Stacy and a lot of other folks will be glad to see RALs go away – except, of course, the tax preparers and their partner banks who made a killing off them. But what made them stop? In the final analysis, it was the IRS.

How refund loans work

A refund loan is nothing more than a bank loan, offered through a tax preparation service, secured by your impending refund. But just because you’re entitled to a refund doesn’t mean you’ll actually get one. For example, if you have a delinquent student loan, owe back taxes for previous years, or are otherwise are indebted to Uncle Sam, the government will claim your refund.

So before a tax preparer offers you a refund loan, they want to make sure you’re going to get a refund. In the past that was easy, because the IRS would furnish preparers a filer’s “debt indicator,” which let the preparer know whether or not the person filing a return owed the government money. If they came back “clean,” the preparer gave them the loan.

But with the 2011 filing season, the IRS announced they were going to stop providing that information. As you might imagine, this made these loans much riskier for preparers and the banks they partnered with. So the banks started backing out, until finally there were just a few left – and those set more restrictions to minimize their losses, meaning fewer people could get the loans.

Today there’s just one bank still offering RALs: the Republic Bank & Trust Company in Louisville, Ky., and just one preparer offering them: Jackson Hewitt. According to the National Consumer Law Center, getting a $1,500 anticipation loan from Jackson will result in a fee of $61.22. If that loan is only outstanding for 10 days – about the time it takes to get a refund via electronic deposit – that equates to an annual percentage rate of 149 percent.

So you can see why consumer advocates have hated these loans. And thanks to a government settlement, even Republic Bank is calling it quits after this year, leaving tax preparers high and dry.

Rip-offs after RALs

Unfortunately, the National Consumer Law Center reports tax preparers have a backup plan – “refund anticipation checks,” designed to target people without bank accounts. In a report on the death of RALs, they highlight the RACs: “Tax preparers and banks will continue to offer RACs, for which the banks generally charge about $30 – $32. Tax preparers may also charge their own ‘add-on’ fees, which can range from $25 to several hundred dollars,” NCLC says.

These are basically temporary bank accounts, and they’re no faster than you could get the refund on your own. The fees aren’t as bad, basically cut in half. But that’s like saying you prefer a slap to a punch in the face – you’d probably rather not be hit at all. And you don’t have to be.

Get your refund fast, for free

Taxpayers who file electronically and sign up to have the refund direct deposited into their bank account will have the refund in as little as two weeks, sometimes less. Virtually everyone offers e-filing now, and if they don’t do it free, you can always plug your numbers into the IRS’ online free file forms. And if your income is under $50,000 a year or your age is over 60, IRS volunteers will not only help you file taxes free, they’ll also prepare them free as well. You can look up free tax prep in your area at the IRS website.

Those without bank accounts still have the option to e-file and use a prepaid card to receive a refund. If you already have one, great. If not, read the fine print first: Even prepaid cards have fees.

Another idea, which Stacy mentioned in the video, is to change your tax withholding. If you tend to get large refunds every year, you’re probably having too much tax taken out of your paychecks, which amounts to giving the government an interest-free loan. Why wait all year to get your money back? Here’s how to fix it: Get your pay stubs together and use the IRS withholding calculator to fill out a new Form W-4, which you turn in at work.

After that goes through, you’ll start seeing slightly bigger paychecks, and a much smaller tax refund – which means you’ll have your money when you need it, instead of giving it away to either the IRS or some tax company. Just be sure to put that extra income to good use.

Want more tax help? Check out stories in our Tax Hacks series like 8 Easy-to-Miss Deductions and 4 Places for Free Help.

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