Consumer advocates are upset about a type of tax refund-related loan they say is being marketed earlier and more widely than ever.
The loans, arranged by tax preparers in partnership with banks, are based on the size of a consumer's expected tax refund. Called "pay-stub" loans because the refunds are estimated by looking at a recent paycheck, they are a variation of traditional refund anticipation loans. Those products aren't available until late January or early February, when employers send out W-2 forms reporting final wages, taxes withheld and other important information.
This year, instead of waiting until the beginning of January - the month when most pay-stub loans have been made - tax preparers increasingly began marketing the loans in November as a way to meet holiday expenses, consumer advocates say. Because of that, sales of the loans are likely to reach levels not seen before, said Chris Keeley, a spokesman for the New York-based Neighborhood Economic Development Advocacy Project, which promotes fair access to credit.
Advocates say pay-stub loans aren't a good deal for consumers because they are expensive and are more risky than traditional refund anticipation loans, which also carry hefty fees. By offering the loans as early as November, banks and tax preparers are taking advantage of the "anxious feeling that people can get around the holidays," Keeley said.
Tax preparers and banks say pay-stub loans provide consumers with an extra option for receiving funds, and that the cost and other conditions of the loans are fully disclosed. The loans tend to be expensive for banks because of their short-term nature, small size, and because they are often made without a credit check, said Fritz Elmendorf, a spokesman for the Consumer Bankers Association.
"We'd agree that the consumer should be aware" of all of the loans' terms, Elmendorf said. "It's definitely caveat emptor," or let the buyer beware.
No figures are available to estimate how many pay-stub loans have been made, and at what cost to consumers, advocates say. But using Internal Revenue Service data, the National Consumer Law Center and the Consumer Federation of America have reported that about 12 million U.S. taxpayers paid more than $1 billion in fees for traditional refund anticipation loans in 2004.
Advocates say refund anticipation loans are especially likely to be harmful to low-income workers who qualify for the Earned Income Tax Credit, the nation's largest anti-poverty program for working families. In a report to Congress in June, Nina Olson, the national taxpayer advocate, said there is a "government interest" in delivering the tax credit to beneficiaries "without intermediaries siphoning off fees."
On an annualized basis, fees charged for pay-stub and traditional refund anticipation loans can soar into the triple digits. Moreover, because pay-stub loans usually must be repaid with a "balloon payment" in mid-February, many tax filers who use them make the payment by taking out a traditional refund anticipation loan, adding an extra layer of expense, Keeley said.
For instance, he said, a pay-stub loan for $1,200 marketed by one tax preparer costs at least $81 in fees. If the taxpayer later returns to the same preparer for a traditional refund anticipation loan to repay the pay-stub loan, and increases the loan to $1,700, an additional $135 is charged, for a total of $216.
With a pay-stub loan or a refund anticipation loan, a consumer is responsible for payment in full even if the refund falls short.
But taking out a pay-stub loan is particularly risky because the lack of a W-2 increases the chance of basing such a loan on incomplete or missing information, advocates say. For instance, they say a tax preparer might not know about an IRS lien on the refund to pay child support or a student loan debt, or be aware of a client's other sources of income.
A spokeswoman for the nation's second-largest tax preparer, Jackson Hewitt Inc., which began selling a pay-stub loan product called Holiday Express Loan in November, said in an e-mail that the company "takes disclosure seriously" and makes sure consumers receive information on other options available to them. She said that for a $600 loan, the bank fee would total $65.
H&R Block Inc., the biggest tax preparation firm, said in an e-mail that its pay-stub loan product, Instant Money Advance Loan, also offered beginning in November, is cheaper than competitors' products, and that clear disclosures are made "so that clients can make informed choices."
A spokeswoman for HSBC, a bank that makes tax refund-connected loans through H&R Block and Jackson Hewitt, said HSBC makes sure consumers are told about terms and costs, and that people who choose such loans receive prices that are "reasonable" compared with other unsecured short-term credit alternatives. The loans, she said in an e-mail, "allow consumers a choice of wider access to funds for holiday expenses and end-of-year bill payment."
Although it has not done so during the holidays, JPMorgan Chase & Co. will offer pay-stub loans for the first time throughout January, acting through independent tax preparers, said bank spokesman Tom Kelly. The bank will make sure consumers know what the costs are, he said.
Susan Harrigan writes for Newsday.