What Is an Instant Refund Anticipation Loan?

Refund Loans

Professional tax preparers commonly partner with banks to offer loans to clients who expect to receive a tax refund. After preparing your tax return and determining how much of a refund you're due, the preparer then applies for a loan from the partner bank on your behalf. If you're approved for that loan, the bank gives you a check for the loan amount. The bank then sets up a temporary account for you, and your preparer instructs the Internal Revenue Service to deposit your refund into that account. When the refund arrives, the bank gets its money back, plus fees and interest, and sends the remainder -- if any -- to you.

Banks can approve these loans quickly, because there's usually little question of repayment. Your tax refund is your collateral, and the refund must go through the bank to get to you. Even so, it can take a day or two after approval to process the loan paperwork and get you a check. Some people need, or want, money faster than that, and that's where the "instant" refund anticipation loan comes in. With an instant loan, you can get money as soon as your preparer finishes your return, because the money doesn't come from the bank. It comes from the preparer, and it's an advance on the loan coming from the bank. When your tax return comes in, both the bank and the preparer get their money back.

A 2008 survey by the National Consumer Law Center and the Consumer Federation of America found that processing fees for instant refund application loans typically ranged from $25 to $85. That's on top of the fees and interest on the loan itself. Refund loans are short-term -- usually only one or two weeks -- but the effective annual interest rate on them can range from 36 percent to nearly 500 percent, the survey found. With fees included, that rises to 80 percent to 1,200 percent.

Both the National Consumer Law Center/Consumer Federation of America survey and a 2005 study by professors at Harvard Business School found that the primary market for all kinds of refund anticipation loans is low-income people. More specifically, the consumer groups' survey found that 63 percent of those who took out refund loans in 2006 were low-income taxpayers who qualify for the federal earned income credit. This credit, designed to encourage low-income people to work, can involve complicated calculations, which leads many people who may qualify to hire professional tax preparers.