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RALs

A refund anticipation loan is an advance made to a tax filer against the expected refund that he or she will shortly receive from the IRS.  RALs are relatively unknown to most people.  For the poor, though, it is a different story.  RAL providers are there if you look for them. Although banks can no longer originate a refund anticipation loan, some of the nation's largest tax preparers have

In most instances, the RAL consumer is also a recipient of the Earned Income Tax Credit.  This is a good program, developed in the 1970s by Richard Nixon and characterized as incredibly successful by Ronald Reagan, that relieves poverty.  It is refundable, so workers are rewarded for earning more money.

The federal government's main anti-poverty program is working to improve the living standards of the working poor.  Unfortunately, as long as non-banks continue to make these advances, a private loan industry will continue to intercept a portion of those payments.

Often, people pass off the seeming lack of logic concerning the use of refund anticipation loans as evidence that the poor make poor decisions, or that they fail to understand the time value of money. When described by academics, there’s even a name for people who exhibit this kind of decision-making: they are individuals with a “high discount rate.”  What this means is that the poor, in this example, value money in the present greatly.  They would take a dollar today over a much higher amount in the future.

I think the mechanics of a RAL tell us that this academic description of how the poor are making decisions is a little bit off the mark. Borrowers who get RALs avoid paying for their tax preparation services out of pocket. It might cost them $150 otherwise to get taxes done at one of the mainstream franchise tax prep services. That can be a lot of money to a person trying to support a household on a minimum wage salary.

I've created one such scenario in this post.

It would be wrong to conclude that RALs only inform us about the credit decisions of the poor.  In fact, their prevalance also suggests something about the availability of credit to low-income households.   The low-income characterization is an important thing to remember.  Refunds generally go only to people who work.  These are people with jobs, but without adequate credit.  It suggests that there is little recourse to find credit elsewhere for these poor consumers.  The only loan product that could be more expensive might be a payday loan.  Even credit cards would be far better – suggesting that for many of these consumers, credit cards are out of reach.

Tax filers purchased 8.5 million RALs during the 2008 tax year.