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Taxpayers: Beware of Instant Refunds

January 27, 2005
California Attorney General Bill Lockyer is warning taxpayers against falling prey to high-priced "refund anticipation loans" (RAL), which some tax preparers dangle as "instant" cash, but which drain billions of dollars from consumers who can least afford to pay the exorbitant costs.

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"These short-term loans are a classic too-good-to-be-true product," said Lockyer. "They're not instant cash. They're instant, costly, unnecessary debt. To enjoy illusory benefits, consumers have to pay interest and fees that can drive the effective annual interest rate higher than 700 percent.

"What's worse, these loans are aggressively marketed to low- and moderate-income families who are most vulnerable to sales pitches that promise quick cash. Hard-working Californians should be aware that, if they really need money quickly, much less expensive options are available," Lockyer said

Tax preparers who offer cash advances based on consumers' anticipated refunds have proliferated in the state's shopping malls and department stores, and on street corners. They even have formed "partnerships" with other businesses, like rent-to-own operations and car dealerships.

Depending on the tax refund amount and fees charged, RALs can force consumers to pay the equivalent of annual interest rates ranging from 40 percent to more than 1,700 percent, according to a report by the National Consumer Law Center (NCLC) and the Consumer Federation of America (CFA). The report is scheduled for release at the end of this month.

In the 2003 tax filing season, an estimated 12.1 million taxpayers nationwide obtained RALs, down slightly from the 2002 total of 12.7 million, according to the NCLC and CFA. Still, Lockyer said the 2003 figure shows the use of RALs remains disturbingly high - and well above the 2000 total of 10.8 million.

The economic burden of RALs falls particularly hard on families who can least afford the cost. The NCLC/CFA report to be released at the end of the month found that roughly 57 percent of the families who purchased RALs in 2003 - 6.92 million of the 12.1 million - received the federal Earned Income Tax Credit (EITC). The EITC provides financial assistance to the working poor.

Those 6.92 million EITC recipients spent a total of $1.74 billion on RAL-related fees, including check-cashing fees, according to the NCLC and CFA. Those numbers largely are unchanged from the 2002 tax season, when roughly 7 million EITC recipients spent a total of $1.75 billion on RAL-related fees.

Aside from the high cost of obtaining RALs, Lockyer pointed to other problems with the loans. For example, he noted consumers have to pay back all the borrowed money and fees even if a preparer miscalculates, and it turns out no refund is due. Additionally, late repayment of an RAL can subject consumers to heavy interest and late fees.

Lockyer urged low-income taxpayers to open bank accounts as a cheaper, better way to get their refunds quickly. He noted taxpayers with bank accounts can avoid paying the steep price to obtain an RAL and still receive their refund in 10-14 days through direct deposit. The Federal Reserve estimates 22 percent of families who earn less than $25,000 do not have bank accounts.

Consumers also can have less tax withheld from their paychecks or receive part of their EITC in monthly payments over the course of the year, Lockyer noted. Either alternative puts more money in consumers' pockets throughout the year. While these options reduce any tax refund consumers receive, they also reduce the need to obtain an RAL. Lockyer advised consumers to ask the IRS or their tax preparers now about using these options for 2005 income.

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