Tax refund loans bring high costs in fine print

March 29, 1994|By Joan Jacobson | Joan Jacobson,Sun Staff Writer

With large, brightly colored signs, pawnshops, check-cashing stores and tax services throughout Baltimore advertise quick cash advances on tax refunds.

But only in the tiniest print will consumers find the annual interest rate they'll pay to get their tax refunds in a few days instead of a few weeks. It's as high as 151 percent.

The quick tax refund is a multimillion-dollar business nationwide.

In most cases, consumers pay a flat fee up front to get their money in two or three days, compared with several weeks if they wait for the Internal Revenue Service to process their returns. But what they're actually getting is a short-term loan, which the lender recovers when the refund is issued.

The fee, as a percentage of the loan, usually exceeds Maryland's 24 percent cap on annual interest rates for consumer loans, according to bank officials and consumer advocates.

The out-of-state banks that actually issue the loans here can circumvent Maryland's interest cap because federal law allows them to use their home states' interest ceiling, said Steve Lovejoy, assistant attorney general for consumer credit.

Two lending institutions making tens of thousands of loans in Maryland -- Mellon Bank and Beneficial National Bank -- use banks registered in Delaware, which has no interest rate cap.

The loans are legal, but consumer advocates argue that they are unfair and prey on those who can least afford them.

"The interest rate is exorbitant," said Tip Phabmixay, a lawyer with Consumers Union's West Coast Regional office in San Francisco. "People don't know they've been victimized. The people who are being ripped off are the people who desperately need the money."

Baltimorean Larry McNair went to an H&R Block office on North Howard Street for a "rapid refund" in February because he needed the cash to buy a house.

"I was getting a good-size refund and I needed the money fast," Mr. McNair said. He said he did not know the annual interest rate he was charged but was willing to pay the fee to get his money quickly.

It wasn't the first time. Last year, he got a "rapid refund" simply because "everyone else was doing it," he said.

Mr. Lovejoy suggests that consumers look for cheaper alternatives.

"Go and compare the rates on [conventional] loans from banks, savings and loans, credit unions and even finance companies, and compare with what you would be charged [for tax refund loans] and see if you can get a better deal," he said.

A random survey of Baltimore check-cashing businesses, pawnshops and tax services conducted by The Sun turned up fees ranging from $50 to $120 for tax refund loans. The fee does not include tax preparation charges.

Only a portion of the fee -- usually $29 or $30 -- goes to the bank as a finance charge for the loan. The remainder is split between the pawnshop or check-cashing business and a third firm, which communicates by computer with the Internal Revenue Service to verify the accuracy of the tax refund.

The annual interest rate is higher for smaller loans. For example, Beneficial National Bank, which makes refund loans through H&R Block, charges a $29 for each loan. According to bank disclosure forms given to customers, this amounts to a maximum 151 percent annual interest rate on a $500 loan but as little as 25 percent on a $3,000 loan.

"It's a big money-maker for banks and H&R Block. It's a risk-free loan," said Ms. Phabmixay, noting that the loan is made only after the IRS promises to make good on the refund.

Although he concedes that the default rate on such loans made by his bank is less than 1 percent, Beneficial spokesman Bob Wade said the bank pays a high overhead cost for the staff and computers that scrutinize applications for fraud.

"Scams sometimes can't be avoided," he said.

Nevertheless, the loans have become lucrative for both the issuing banks and the businesses that arrange them.

ACE Cash Express, the country's largest check-cashing business, made $824,000 in fees during 1993 for sending tax forms electronically to the IRS -- most of them for quick refund loans, according to the company's annual report.

Nationwide, Beneficial made a pretax profit of $56 million on 2.5 million loans in 1993, a 19 percent increase over 1991 profits. In Maryland alone, the bank made 150,000 loans last year, Mr. Wade said.

Its fee is "$29 whether it's $300 or $3,300 that you're getting back," he added, which amounts to a 58 percent annual interest rate on the average refund of $1,300.

Though such interest rates are legal, Mr. Lovejoy of the attorney general's office said Maryland businesses that arrange the loans -- and charge a fee -- must be licensed with the state's consumer credit office.

He said none of the pawnshops, check-cashing businesses or tax services is licensed with his office. To get a license, a business must arrange a $12,000 bond and pay an annual $850 fee.

"A person who accepts a fee for referring a person for any type of loan needs an installment loan license that enables one to engage in credit services," he said.

Mr. Lovejoy urged the businesses to register with his agency but said he cannot investigate unlicensed firms without a consumer complaint. And his office hasn't received any complaints.

Brian Satisky, president of the Maryland Check Cashers' Association, said he was unaware of the law requiring businesses arranging loans to be licensed.

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