The Ugly Truth Regarding Refund Anticipation Loans

When it comes to filing income taxes, you often see all the advertisements that claim that you can get your tax refund instantly or within 24 hours. This really isn’t true. In fact, the IRS will not release an income tax refund until at least 10 days after it has accepted it electronically. These fast refunds are, in fact, not refunds at all. They are temporary, high interest loans made by a financial institution. Once the IRS releases the refund, the financial institution gets paid back. Many people who get refund anticipation loan products don’t realize they are getting a loan.

Is this a scam? Well, that depends on what your definition of a scam is. This is similar in structure to a payday loan. They are temporary loans that don’t seem to cost very much. However, when you annualize the cost of borrowing, they are a complete rip-off. Payday loans and automobile title loans are illegal in some states because they make no financial sense whatsoever. To someone who is getting a refund of $3,000, an extra $200 for filing a tax return seems like it’s chump change. The real problem is that the people getting these loans are those who can least afford them.

Most people who get these loans are people who are married with children or are a head of household. Because they struggle financially the entire year on a small income, their tax refund is the largest amount of money they will see for the whole year. Generally, those who are not used to having that much money at once manage that money poorly. Once they obtain that refund check, it’s usually gone fast.

Much of this money comes from earned income credit (EIC). EIC is a refundable credit that is intended to aid low income earners with dependents. This is structured badly. Instead of allowing people to get this money as a single lump sum, it should be structured that this money gets paid out in installments throughout the year. There is an advanced earned income tax credit program in place that enables this, but very few taxpayers get it because they want that large refund check every year. That being said, requiring the installment payments would accomplish a couple of things. First, those getting EIC would not get the high interest loans.

Second, more of the EIC money would be used for the program’s intended purpose. Most people who get a large tax credit from EIC will spend the money on a new car, vacation, or other non-essential item. The intended purpose for this program was to help low wage earners put food on the table and pay rent. By dividing EIC payments into installments, a bigger portion of that money would be used for what the program was created for, leaving less money for non-essentials and banks.

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