Refunds are the best part of tax season. It’s like Christmas for adults: you try to be good all year and then you get a little reward for your efforts. But in this case, the white-bearded man giving you a present is Uncle Sam instead of Santa Claus.
You can’t blame anyone for wanting to get their refund a little early. And when there’s something people want badly, there will be someone to take advantage of that.
Refund-related products, specifically refund anticipation loans and refund anticipation checks, are billed as easy ways to get people cash fast. They sound good in theory, but the high interest and low benefits that come with them mean that they’re a lot more dangerous than they seem.
Refund anticipation loans versus refund anticipation checks
Refund anticipation loans (RALs) and refund anticipation checks (RACs) are two similar products with a few key differences.
RALs became popular when electronic filing did in the mid-1980s.
RALs are, as the name says, loans. A customer receives a set amount of money and if it’s not paid back under the terms of the loan, the customer pays interest on the balance. In this case, though, the loan amount is tied to the customer’s anticipated tax refund.
The customer gets money right away, and then the refund is paid out to whoever provided the RAL (in the past it was usually a bank, but nowadays it’s more likely to be a tax prep service). But the customer pays interest on the loan if the refund isn’t issued in a certain amount of time or the refund doesn’t cover the loan amount.
RACs, on the other hand, are used specifically to pay for tax preparation services. A temporary account is opened for the customer, the refund is deposited by the IRS after a few weeks, and the customer is then paid – minus the tax prep fees and the cost of the RAC.
Customers who don’t have a bank account can still get money deposited into the account opened by the RAC provider, and they don’t have to pay for the tax prep service up front. They get the money via a prepaid debit card or a check, and the temporary account is closed.
In both cases, the customer isn’t technically getting their refund. Whoever is providing the RAL or RAC is getting the refund, and the customer is getting paid by the provider.
The IRS regulates tax refund products. For example, providers have to provide flat fees rather than calculate a fee based on the refund amount (for example, charging a percentage of the expected refund). Banks used to be heavily involved in RALs, but regulatory changes forced them out of the market.
RALs and RACs position themselves as a way to get your refund quickly while being able to afford tax preparation services. Unfortunately, the prospect of receiving a refund seems to make people forget the cost they’re really paying.
The truth about RALs and RACs
RALs and RACs admittedly look like an okay idea on the surface, right? You get your refund money quickly and pay someone for the services they’re providing.
But both RALs and RACs come at a high cost – especially because they’re extremely attractive to vulnerable people who most need their refund money quickly. That’s why consumer protection organizations like the National Consumer Law Center have been so opposed to them over the years.
A RAL is little more than an incredibly high-rate loan. As NBC News put it, it’s "an annualized rate of 178 percent on a 10-day loan [people] are essentially making to themselves". If your refund gets held up or isn’t as much as was anticipated because of an incorrectly-assumed deduction or credit, you’re on the hook for paying back that loan – with interest.
21.6 million people received a RAC in 2014. Of those people, 83% were low-income and half were recipients of the Earned Income Tax Credit, which is designed to help "low- and moderate-income working people." As the NCLC points out, "EITC recipients are vastly over-represented among the ranks of RAC customers."
The products are popular with people who don’t have their own bank accounts, which includes many low-income earners. The temporary bank account is opened by the provider, so the customer doesn’t have to worry about having an account. Low-income earners may also not be confident in their ability to file their taxes on their own, so they turn to tax prep providers.
RACs aren’t quite as bad as RALs but the costs are still high. Take a look at H&R; Block, for instance. They offer:
A federal RAC fee of $34.95,
A state RAC fee of $13.00, and
An additional $25 fee for a paper check.
And that’s just for the RAC service itself. It’s on top of the fee to actually have your taxes filed.
The worst part is, RALs and RACs simply aren’t worth it. With RALs, the interest rates are dangerously high, and with RACs you aren’t getting your money any quicker: if you e-file your taxes you can expect to get your refund within three weeks.
And as for using that money to pay for tax preparation services? Remember, most of the people using RACs are low-income. The IRS makes available resources for finding free tax prep programs. With better – and free – alternatives out there, there aren’t many ways to look at RAL and RAC programs where they aren’t predatory, targeting people who think they don’t have other options or are desperate to get their refund money now.
There’s almost no reason for you to use RAL or RAC services. Many organizations and credit unions offer free tax preparation or, again, you can find a free tax prep provider from the IRS. For those who don’t have a bank account, you’re likely able to open one for cheaper than the RAC fee.
So don’t be drawn in by the temptation of refund anticipation products. You won’t get any benefits – and it’ll likely end up costing you in the long run.