The Internal Revenue Service has quietly been studying the impact of refund anticipation loans (RALs) on both lower income taxpayers and on government revenues. The results of their study suggest that the IRS will close the loophole that allows tax outlets to offer refund anticipation loans.
The Loophole
The IRS has allowed tax firms to share private information with banks that provide the refund anticipation loans to taxpayers. All that technically needs to be done is to prevent this release of private information, which would prevent firms from accurately estimating tax refunds.
Impact on Low Income Taxpayers
The IRS has long maintained that tax preparation firms that offer RALs are stripping much needed financial support from the families that need it the most. The impact is that millions of dollars intended to help lower income households get by is being siphoned off by tax preparers.
Some tax prep and RAL fees are totaling more than $400 on a fairly simple tax return. Families are getting charged for every form that must be completed, often with a separate charge for every W2 and 1099 form that is entered.
Investigations by consumer advocate groups show the extent that RALs are focused on by tax preparers. Studies by the National Consumer Law Center and the Consumer Federation of America show that tax preparers aggressively push RALs with hefty fees that can mean loans to poor taxpayers with interest higher than 500% APR. In one study, 15 out of 17 tax outlets visited tried to push RALs on the taxpayer.
Impact on Tax Revenues
The impact that likely has the greatest importance at the IRS is the reduction in overall tax revenues. Results of greater IRS investigations have not yet been made public.
Individual investigations of tax firms that helped taxpayers cheat on their taxes have been announced. Some firms have even been shut down during part of the tax preparation season due to violations.
The essential conflict that exists is that these firms charge fees that are based, in part on the amount of the tax refund. They therefore have an incentive to maximize the tax refund so that their fee income is greater.
Even without RALs, many firms still feel the need to maximize tax refunds to keep taxpayers coming back year after year. The result is that some firms are crossing the line, and are inflating tax refunds in order to make taxpayers happy and to line their pockets with hefty fee income.
Long Term Implications
Amendments to Section 7216 Regulations and Revenue Guidance have been proposed by consumer groups, nonprofit organizations (including this one), taxpayers and tax preparation firms. It is expected that tax preparation firms will vehemently oppose any substantial changes. However, there is no reason for the IRS to keep this loophole open, which is why it is expected to close soon.
There is one other loophole that some consumer groups must still examine. The use of pay stubs as a form of wage verification has been used by firms in the past to offer high interest loans similar to RALs. This could be a way for these firms to still be able to offer similar high-interest loan products, even if the expected amendments are adopted.
Tags: Amendments to Section 7216, pay stub loan, refund anticipation loan
As a tax preparer I believe that it is about time that something was done about RALs. RALs are a terrible product and have left some taxpayers with a hefty bill if the refund is not as large as anticipated. I refuse to offer them at my firm. That said, refund transfer products provide a useful service to low income taxpayers. These products allow the preparer to receive their preparation fees from the refund. The bank fee for this service is usually around $40-$50. I have found that simply explaining the various options to clients quite often results in them deciding to pay up front.