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Profits from tax refund-anticipation loans, a controversial and once-lucrative product designed for underbanked consumers, are drying up. Though tax-preparation firms often tie prepaid cards to the loans, they should continue to find the prepaid market to be a viable for other services they offer, observers say.
Various factors have had a negative effect on the refund-anticipation loan market. Consumers have been less willing to pay extra for faster refunds during the recession, and long-running advocacy campaigns against the loans have increased the legal and reputational risks of offering them. Moreover, proposed regulatory reforms in Washington would tighten scrutiny of the loans, and the Internal Revenue Service is updating its computer systems to process check refunds more quickly.
All these factors contributed to a sharp decline in loans made this past tax season, as consumers shifted to a cheaper, less controversial financing product often called the refund-anticipation check.
Industry executives and observers say the refund-anticipation loan business may not recover.
"I think it'll be permanent. I think people are moving away from the [refund anticipation loans] and towards other products," says Steven Trager, chief executive of Republic Bancorp Inc. in Louisville, Ky., one of several financial institutions that offer the loans through tax-preparation firms.
Industrywide, taxpayer requests for refund-anticipation loans fell by more than 15% during this year's tax-filing season compared with a year earlier, to 8.4 million, according to a report published in June by the Government Accountability Office. Demand for refund-anticipation checks rose 10%, however, to 11.5 million taxpayer requests.
As with the loans, refund-anticipation checks enable consumers to pay for tax-preparation services without any out-of-pocket expense; the fees are deducted out of the refund, and both products give consumers who do not have bank accounts the speedy access to their refunds that normally is available only via direct deposit.
With both products, the tax preparer or its financial institution deducts the fees for the return, and additional fees for the loan or check, from the refund amount that ultimately reaches the consumer.
The loans have the additional selling point of getting cash in the consumer's hands faster–the bank provides the funds within days or even an hour. The checks, on the other hand, are not written until the IRS sends the refund, usually in about two weeks.
Virginia Beach, Va.-based Liberty Tax Service enables its customers to load tax refund-anticipation loans and refund-anticipation checks into reloadable, Visa-branded prepaid card accounts.
Despite what the government data showed, Liberty did see a number of its customers migrate to refund-anticipation checks from refund-anticipation loans, says Mark Baumgartener, Liberty chief financial officer. He would not disclose the totals to ATM&Debit News.
The number of consumers choosing to load refund-anticipation loans into prepaid card accounts had been "pretty significant in the past," according to Ken Paterson, director of the credit advisory service at Maynard, Mass.-based Mercator Advisory Group Inc. But Paterson does not believe the drop this year will have much of an effect on the prepaid cards tax-preparation firms offer.
"The one thing worth noting [with the decline of refund-anticipation loans] is that it does remove one potential source of loads onto the card," he says.
The goal of the prepaid card is still to form a relationship with the customer year round, Paterson says. "It doesn't necessarily have to have a cash advance on it," he adds.
Tax-preparation companies can replace those lost loads with hybrid cards, which are prepaid products that include a line of credit, usually less than $1,000, Paterson says.
Bowerman believes refund-anticipation loans will increase when the recession ends. But even if they do not, he is not worried about any lost revenues. "From our prospective, we make the lion's share of our money in the tax-preparation fees," he says. "These other bank products are really just a service to our customers."
Refund-anticipation checks also cost consumers about half as much as the refund-anticipation loans. HSBC Holdings PLC and JPMorgan Chase & Co., for example, charge about $62 for an average loan of $3,000; Republic and Pacific Capital Bancorp charge more than $100. Consumers pay about $30 for most refund-anticipation checks.
Fewer consumers qualified for refunds this year, and those who did were willing to wait longer to get their cash to avoid paying fees, industry executives and observers say.
Last week, the $7.3 billion-asset Pacific Capital said its profit from the sale of refund-anticipation loans and checks was cut almost in half from a year earlier, to $61.3 million, even as the number of products sold remained relatively flat at 8.1 million.
Pacific attributed the drop in profits largely to a change in IRS standards that resulted in more refunds being denied after loans were funded, forcing the lender to charge off the loans. But the Santa Barbara, Calif.-based company also reported a shift in consumer demand away from its loans and toward its check product. The product mix during the first quarter was 23% loans and 77% checks, as opposed to the 27% loans/73% checks split a year earlier. (Pacific did not respond to interview requests by press time.)
Trager reported a similar shift in consumer preference at Republic this year. Its tax-product mix usually is one-third loans and two-thirds checks, but the amount of loans sold fell about three percentage points this year, to 30% of its products sold, as more consumers shifted to the check.
"The mix was more tilted towards the less-expensive product," Trager says. "People are sensitive to the economy and the pricing."
The consumer switch to cheaper but slower refund products seemed counterintuitive to some.
"It is kind of a surprise to me and a lot of people in the industry. In this economy, you would think people would want to get the money as quickly as possible," says Todd Young, an analyst for Morningstar Inc. who covers tax-preparation companies. "In the past, customers hadn't really been that price-sensitive at all. But there have been a lot more consumer-advocacy groups out there saying, 'Hey, you're really wasting your money' " with a refund-anticipation loan.ATM
