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Tax Refund Anticipation Loans May be More Dangerous Than You Think
Tax season is a much anticipated, yet anxiety-inducing time of year. Whether you owe money to the government or the government owes you, there is usually some element of uncertainty. Last year -- for at least a quarter million households -- that uncertainty presented itself in the form of a delayed refund.
According to a report from the Taxpayer Advocate Service (TAS), an IRS-affiliated organization that helps to protect consumers, the Internal Revenue Service (IRS) flagged about 1.1 million tax returns for investigation as part of its efforts to curb fraudulent refund activity. Unfortunately, a kink in the process suspended approximately 275,000 tax returns for at least 40 days. “These delays caused hardship for a number of taxpayers who were relying on their refunds and had to come to TAS for assistance,” the report said.
No one wants to spend hours pouring over complicated income tax documents, only to wait weeks -- or indefinitely -- for that sweet refund check to arrive, especially during times of financial stress. Maybe your rent is due (or past-due), post-holiday credit card bills have piled up, or your student loans are still haunting you.
If this sounds like your situation, you are not alone. The National Consumer Law Center, a nonprofit, estimates in 2018, 1.9 million filers applied for tax refund anticipation loans, which the center reports have “evolved to profit off taxpayers expecting large refunds.”
If the idea of a delayed refund is causing you stress, a tax refund anticipation loan may be an option -- however, make sure you have all the facts before you decide to jump in to this type of financial product.
What is a tax refund anticipation loan?
Essentially, tax refund anticipation loans work like many other cash advance services. Financial institutions that offer tax refund advance loans take the refund amount you’re expecting to receive from the government and give you a short-term loan based on that number. These kinds of loans are typically available between December and April of any given year, and when your actual refund arrives, you can use that money to pay off the loan.
But a tax refund loan advance isn’t some magical time machine for your money. Unlike legitimate tax refund advance services offered by many tax preparation companies, tax refund anticipation loans can be problematic for a variety of reasons.
First and foremost: Taking out this type of loan guarantees you’ll net much less on your refund than you would if you just waited it out.
“Tax advance loans are not a consumer friendly product and are usually products of big business,” warns Jacob Dayan, CEO and co-founder of Community Tax. “They typically advertise and upsell their services by using appealing words like ‘zero APR’ and ‘no credit check.’ These refund anticipation loans, in fact, often have very high interest rates, unnecessary filing and check cashing fees, and require you to file your taxes with the service or business offering the loan.”
Dayan also points out that you won’t be totally sure how large your income tax refund will be until you actually receive your check or deposit. If it isn’t enough to cover the personal loan amount, you will likely still be on the hook for the difference.
Are any tax refund loans safe?
It depends. Getting caught up in a refund anticipation loan could leave you struggling to repay what you owe. In that sense, your loan will be no different from the kinds of dangerous bad credit and no credit check loan applications that less reputable lenders offer all year round.
There are legitimate tax preparers that offer refund advance loans to filers with no fees or interest. These personal loans may come in the form of a prepaid debit card.
There is a catch, of course: You can only get the offer if you use the tax preparation service providing the loan to handle your income tax return. While there may not be fees or interest tied directly to the amount of the loan, the fees you pay the tax preparation services may not be worth the cost if you are able to complete your taxes on your own for free.
Alternatives to tax refund loans
Instead of relying on a refund anticipation loan to get your hands on a quick buck, there are a few steps you can take to speed up your tax refund and give yourself a financial leg up. Here are five of them:
Step No. 1: File ASAP
According to the IRS, nearly one-fifth of all Americans file their taxes at the last minute. And if you wait until April 15 to file your taxes, you probably won’t see your return until the end of April or early May.
If you need that money earlier, file your taxes earlier. Employers must legally provide employees with their tax documents by January 31, so once you receive those and gather any other information you may need, you can go ahead and file. The IRS will likely begin processing tax returns and sending out refunds in early February.
Step No. 2: Set up an account with direct deposit
“Having a bank account that supports direct deposit can reduce the amount of time it takes for the IRS to process and release your refund,” Dayan says.
And if you don’t have a bank account? Well, then getting the most out of your tax refund is going to be tricky, as you’ll likely have to rely on check-cashing businesses, which charge a fee for their services. If you don’t already have a checking account, now may be the time to open one, so you can choose to get your tax return deposited directly into your bank account.
Step No. 3: Embrace technology by e-filing
“Submitting your taxes using e-file can also shave off IRS processing,” Dayan advises. There are even options to file directly, for free. If you don’t have a computer, your local library may have one you can use for free.
Step No. 4: Stop relying on your refund
Contrary to popular belief, you may not actually want a tax refund. Yeah, it’s nice to get a big chunk of change all at once, but your tax refund isn’t the same as a work bonus or some kind of annual gift from the government. All that money is money you earned throughout the year, money you are essentially lending the government for zero interest in return.
If you’re strapped for cash most months but get a huge refund every spring, take a second look at your W-4 and consider adjusting your tax withholdings to avoid having so much money withheld from your paycheck.
Imagine: Instead of receiving $3,500 all at once, you could add an extra $291 to your monthly budget, an amount that could mean the difference between living paycheck to paycheck and having extra cash on hand to start saving, make car payments, or even have a little fun.
Step No. 5: Find a better lender
“If you absolutely need to take out a loan to get by until your tax refund arrives, it’s definitely possible to take out a different kind of loan that has more favorable terms,” Dayan offers. “If you need further assistance, there are many financial firms that offer free debt and credit consultations, as well.”
Tax filing season, not a holiday season
“The most wonderful time of the year” almost never refers to tax season. But this advice might make it a little less painful.
This blog post was updated February 5, 2020 by Andrew Tavin and Kelly F. Zimmerman. It was originally published January 18, 2018.
Jacob Dayan is CEO and Co-Founder of Community Tax, LLC and Finance Pal, LLC. He began his career on Wall Street in New York City, working in the financial analytics and structured transactions group at Bear Stearns. He continued to work on Wall Street until early 2009. when he returned to Chicago to be with his family and pursue his lifelong dream of self-employment. There, he co-founded Community Tax, LLC, followed by Finance Pal in late 2018. Follow him @communitytaxllc.
Andrew Tavin is a writer, comedian, and a full-time content manager for OppLoans. He graduated with a BFA in TV Writing from Tisch School of the Arts in New York City, worked as a writer for BrainPOP, and created a branded comedy video series for the National Retail Federation called “Interview Day.” He performs around the country and his writing has also appeared on CollegeHumor, Funny or Die, and Sparklife. Read more of his OppLoans' work here.
As OppLoans’ lead editor, Kelly Zimmerman oversees content for consumers who are looking for both short-term and long-term financial answers. Prior to joining OppLoans, she spent eight years leading publications in both the print and digital space. She has a Master of Science in Journalism from Northwestern University and has been published with national publications and newswires, such as The Associated Press, McClatchy, and MarketWatch.com.