Refund Anticipation Loan - Controversy

Controversy

According to the Consumer Federation of America and the National Consumer Law Center, RALs are controversial because, like payday loans and title loans, RALs are high-profit, low-risk loans marketed toward the working poor. A 2006 study by the NCLC and the Consumer Federation of America found that "Based upon the prices for RALs in 2006, a consumer can expect to pay about $100 in order to get a RAL for the average refund of about $2,150 from a commercial tax preparation chain this year."

Supporters of the practice say the loans allow people access to funds immediately in cases of an emergency such as overdue medical bills, credit payments, and other debts while they wait for the IRS to process their income tax return. Many taxpayers can file form W-4 to adjust their withholdings to the correct level. When this is possible, a taxpayer can hold on to all cash that would be offered by an RAL without paying any fee, thereby making the cash available at any time. However, in the case of some refundable credits such as the earned income credit, a large refund can be due even if no withholding is made. In 2006, 63 percent of RAL consumers were EITC recipients.

Supporters of RALs may contend that the fees are justified by the high risk of default associated with these short-term loans, since there is a possibility that the IRS will issue a reduced refund or none at all, depending on whether the taxpayer followed the correct procedures in calculating his or her tax. The question remains whether consumers in a free-market are better able to determine their need for various high cost financial products including pawn shops, check cashers, and RALs or whether people need protection from these products by the government.

Opponents of RALs, like as the National Consumer Law Center, argue that the profit motive of the lender results in RALs being issued too often to low-income individuals who are made to believe the wait for their refund is longer than it really is, who do not realize they are taking a loan, do not understand the high interest rates charged by the loan (often exceeding 100% APR until the last two tax filing seasons), and who do not actually need the funds immediately. An empirical study at Georgetown University found that a large percentage of RAL customers appear to use limited decision processes. In recent years several of the banks who provide RAL loans have lowered the annualized interest (APR) on these short-term loans to under 36%.

More than half of all RAL consumers are low-income recipients of the Earned Income Tax Credit (EITC); in 2006, the NCLC estimates RAL loans cost RAL recipients $1.24 billion (USD) in loan fees and another $360 million in administrative, electronic filing and application fees.

In 2002, H&R Block settled a lawsuit brought by the New York City Department of Consumer Affairs for predatory lending practices with regard to RALs and the EITC.