The Internal Revenue Service has dealt a hard blow to a tax product that has long needed to be knocked out.
The IRS announced recently that starting with next year’s tax filing season it will not provide tax preparers and financial institutions with important debt information on taxpayers that allows the companies to arrange or make refund anticipation loans.
A loans are short-term and backed by a tax refund. They last only until a person’s refund arrives, which can be in about 10 days with electronic filing and direct deposit.
Since the 1990s, the IRS has provided to tax preparers and associated financial companies a “debt indicator” as a way to determine how much of a person’s tax refund might be taken by the government.
As part of the loan process, firms electronically submitted a client’s tax return and then received an indication of whether the person would have any portion of his or her refund taken to satisfy a delinquent tax or other debt, such as unpaid child support or federally funded student loans. The debt indicator is key in the underwriting of the loans, a security that the refund will in fact cover the loan. Without the debt indicator, the bank faces greater risk that the loan won’t be paid back.
IRS Commissioner Doug Shulman said that initially the IRS provided the debt indicator as a way to get more people to file electronically.
“Back in the day, the preparers would say, ‘We can set up the bank accounts if you give us the debt indicators,’” Shulman said.
However, there’s now little need to provide information that directly helps lenders make the loans. More than 95 million tax returns have been filed electronically this year, representing more than 70 percent of all returns. With the IRS able to get people their refunds in a few days because so many are comfortable with electronic filing in addition to electing to have their check deposited directly, there’s no longer a need to provide debt information to tax preparers, Shulman said.
“The (loan) has not been a product the IRS has officially had a position on, but it’s not a product I’ve been enamored by,” Shulman said.
This is a clever move by Shulman. The decision will significantly affect the short-term loan business without the IRS having to ban it outright.
For several years, consumer advocates have pleaded with the IRS to prohibit the loans because they target low- to moderate-income folks, who need every penny of their refund. In 2008, 8.4 million American taxpayers paid $738 million in short term loan fees, plus another $68 million in add-on fees, according to a report by the Consumer Federation of America and the National Consumer Law Center. On an individual basis, fees range from $34 to $130. That may not seem like a lot of money, but when the fees are converted into an annual percentage rate it can amount to rates of 50 percent to almost 500 percent.
“We are pleased that IRS has decided to stop aiding and abetting high-cost (loans) that siphon off hundreds of millions in taxpayers’ hard-earned money and federal benefits meant to lift the working poor out of poverty,” said Chi Chi Wu, a staff attorney with the National Consumer Law Center.
Obviously, the major tax preparers are not happy about the punch they’ve received.
H&R Block’s President and Chief Executive Alan Bennett said in a statement that the decision by the IRS to stop providing debt indicator information will reduce the company’s earnings per share by about 5 cents in 2011. But Bennett says the company’s real concern is for the poor taxpayers who will have a harder time qualifying for a refund anticipation loan.
H&R Block facilitated 2.1 million refund loans in 2010. During the last tax season with the debt indicator, the fee for a typical $3,000 H&R Block refund loan was $62, or 2.1 percent of the loan principal, according to the company.
The chief executives for Jackson Hewitt Tax Service Inc. and Liberty Tax Service also said that without the debt indicator, banks that provide refund loans will have to use other methods to screen clients and that would result in considerably higher fees.
“This really isn’t the time to take financial options away from those who choose them and, more importantly, need them,” said Liberty Chief Executive and founder John Hewitt.
People often choose things that aren’t good for them. Hopefully, higher fees will be just the deterrent people need to see the imprudence of this financial option.
Washington Post Writers Group
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