A Big Chunk Goes to the Tax Preparer

It begins almost immediately after the holiday festivities — the advertisements for tax refund advances. 

It could be appealing to go for that refund advance, especially if holiday spending took a chunk out of your finances. It’s also tempting for those who have lost their jobs or were forced to reduce their hours due to the COVID-19 pandemic. But before you jump on an offer for a tax refund advance, make sure you understand how it works.

You could be getting yourself into an expensive “loan,” and you could also end up paying for services you don’t need. 

Keep in mind that if you file your taxes electronically and use direct deposit for your refund, you may be able to get your refund in a few weeks. 

How Tax Refund Advances Work

First, you have to agree to have your taxes prepared by the company offering the tax refund advance. Most companies also limit the amount of the advance.

It’s important to note that the tax preparation companies don’t lend you the money –they forge a relationship with a bank that lends you the money. When you receive your tax refund, the advance amount is automatically deducted from your refund and funneled to that bank, effectively paying back the loan for you. If you borrowed less than the total amount of your refund, your refund’s remainder is usually loaded onto a prepaid card.

Some of the tax refund advances do charge interest—up to 36% in some cases! Even though you’re only borrowing the money for a short period—just until your refund comes—it still means you’ll owe more to the company than you borrowed. 

Is It Free Money?

There is no such thing as a free lunch, as the saying goes. Even if a tax preparation service advertises interest-free tax refund advances, a fee may be folded into the tax preparation fee. If you don’t pay for your tax preparation upfront (having the cost deducted from your return instead), tax services may charge an additional fee. 

If the refund advance is issued using a payment card (such as a prepaid debit card) provided by the tax service, the card may charge additional fees. Prepaid debit cards can have monthly fees and other charges. Credit cards can charge high-interest rates and annual fees. ATM withdrawals can cost $3, and it can cost up to $4.95 to reload more cash. That all adds up. 

When converted to an annual percentage rate, the costs can be relatively high (several hundred percent APR, for example). You’re paying a fee to get your own money more quickly than you’d otherwise get it.

Tax preparers may also charge a flat fee to process your tax refund advance, sometimes referred to as a refund anticipation loan. Those charges could be $30 to $50 for a federal refund, plus additional fees for state refunds. There can also be additional charges depending on how the advance is issued. For example, a fee of $30 to print a check or to issue a debit card is possible.

Exactly How Risky Is It?

In addition to the potentially high fees, the amount of your refund from the IRS isn’t final until you have the money in hand. A tax preparer can miscalculate, or the IRS may disallow some of your deductions. For example, the IRS might withhold funds for things like unpaid child support or tax liens, thereby making your refund smaller than you anticipated and less than you borrowed for the advance. 

But you still have to pay off the advance. It’s a low-risk loan for your lender, but you’re a high-risk borrower. When you add up the fees relative to the amount most people borrow, these loans can end up costing roughly as much as notoriously expensive payday loans.

Alternatives to Refund Loans and Advances

  1. Use direct deposit
    IRS estimates that 90% of refunds arrive within 21 days if you e-file and use direct deposit. That means you’re better off in the long run just waiting for your refund. 
  2. Minimize your refund
    If you rely on annual refunds, you’re giving the IRS an interest-free loan and paying hefty fees while you’re at it. Adjust your withholding so that your employer takes the correct amount from your pay, then develop a budget to save money each month. Although it may seem like you’re getting a bonus, changing your withholding amount will give you more income year-round.
  3. Borrow elsewhere
    If you absolutely must
    borrow for immediate needs, look for less expensive options. Remember: a tax preparer should be doing your taxes, not lending you money. If you use a tax refund advance or loan, you’re paying the price for convenience. Lenders will compete for your business and potentially give you a better deal.

If you need to borrow money, shop around at local banks and credit unions. Personal loans might be a good option for low-cost, low-risk borrowing. Compare rates and fees, and pick the best option.

CWF Can Help! 

Getting an advance on your refund might sound like a great deal. We get it. But, it’s not a good deal and will cost you money. 

We also get that doing your taxes can be frustrating and an extra expense. If you’re a  working family or individual in Southeastern Pennsylvania and Southern New Jersey earning less than $57,000 per year, let the professionals at CWF prepare and file your taxes for free!