The days of tax preparers' refund-anticipation loans had been numbered for years thanks to technological change and policy shifts at the Internal Revenue Service.
But the announcement by H&R Block Inc. that the Office of the Comptroller of the Currency had rejected HSBC Holdings PLC's funding for its refund advances suggests regulators weren't willing to wait for the practice's natural death.
Though the OCC would not say why it issued its directive to HSBC, it issued bulletins in the past that expressed discomfort with refund-anticipation loans on both consumer protection and bank soundness grounds. Given that the deal that H&R Block struck with HSBC to fund the loans absolved the bank of most risk, it appears the OCC acted largely to stop the high-margin, short-term loans as a consumer protection measure.
H&R Block Chief Executive Alan Bennett groused in a company press release that shutting down H&R Block's refund-advance program comes "without the slightest benefit to the solvency of HSBC or the banking system in general."
An analyst agreed. "I think the driving force is a crackdown on providing RALs in general," said Vishnu Lekraj, equity analyst for Morningstar. "You can see where the regulators are heading."
With JPMorgan Chase & Co. already out of the business, Republic Bancorp Inc. of Louisville, Ky., is the largest remaining provider of such loans, through its partnerships with Jackson Hewitt Tax Service Inc. and Liberty Tax Service.
Their arrangement could create a competitive advantage in the 2011 tax season for those companies, analysts said, though they were doubtful that the Federal Deposit Insurance Corp., which oversees Republic, would allow the bank to continue making the loans indefinitely.
"If the OCC in their wisdom believed that this product was not appropriate for HSBC to have, then you have to believe that the FDIC would probably be taking a look at it, or another look at it, as well," said Michael Millman of Millman Research.
H&R Block did not respond to requests for comment. Republic declined to speak with American Banker for this story.
An FDIC spokesman said the agency had no new comments to make on the products, noting that it imposed a cease-and-desist order on Republic in 2009 in connection with some refund-anticipation loan practices. The FDIC has also warned consumers that the loans are usually a bad deal for them.
In the long run, regulatory concerns aren't the only problem facing refund-anticipation loans.
With the IRS processing basic tax returns at increasing speed, tax preparers' customers no longer face the long wait they once did for a refund. Taxpayers who have a bank account with direct deposit can receive their money in as little as five days without taking out a loan.
Moreover, the IRS' decision this year to stop providing tax preparers with debt-indicator data that could be used to predict the size of a borrower's refund killed off a key underwriting tool for refund-anticipation loans, Stephens Inc. analyst David Burtzlaff said.
Ironically, H&R Block may be in a better position than its competitors to adjust to the product's demise. Because the company owns a bank, it's capable of processing an alternative known as refund-anticipation checks, in-house. Unlike RALs, RACs don't give customers an advance — they merely allow taxpayers to defer payment for tax preparation until a refund is issued, at which point a bank collects the funds, deducts the costs of tax preparation and fees and passes the remainder to the customer.
Refund-anticipation checks offer a lower margin of return, Burtzlaff said, but keeping production in-house would improve efficiency and permit customers to elect a no-money-down tax-preparation option.
"If they retain every RAL customer, and convert them to a RAC, there would probably be minimal financial disruption," Burtzlaff said. H&R Block would also likely be able to recoup some of its lost refund-anticipation loans through steering of customers without bank accounts to its prepaid debit cards, he said.
But keeping the customers who use refund-anticipation loans might be difficult. Taxpayers desperate to shave off a few days from their refund wait may follow the product to providers like Liberty and Jackson Hewitt. Both companies declined to comment.
"I know this customer — it is their biggest payday of the year," Burtzlaff said. "You or I may look at it and say, what's another 10 days — why do I want to spend 30-40 dollars more for the additional fee? But for these people, it's probably a little different mentality, and in many cases, they may have already spent the money."
Lekraj agreed. H&R Block "can provide RACs, they've got a prepaid debit card, but they're still going to run into problems with customers who want an instant refund," he said.
If such a demand ends up being wholly unmet by banks out of regulatory concerns, he said, it's worth considering the possibility that other entities would be drawn into financing the business. Specifically, private equity.
"This is a highly profitable business. Return on investment is very high," Lekraj said. For most banks, however, the effort may no longer be worthwhile.
"It's going to be such a headache dealing with the IRS over the long term," Lekraj said.