Saving Taxpayers Money by Replacing High-Interest Loans at Tax Time with Instant Refunds

December 21st, 2008 by Al Lewis (alewis)

If someone offered to lend you money at an interest rate of 48% a year, you’d probably tell them a few things which can’t be printed on this post. This is, after all, a family website.

But if someone said you are entitled to an income tax refund of $500 and if you don’t want to bother to wait for it, how about taking $480 right now and we’ll just cash the check when it comes, you might think, what the heck, why not?

Here’s why not. You would probably have gotten your refunds in much less than 30 days if you waited. That $20 haircut represents 4% of the value of the refund, making the Annual Percentage Rate 48% in the unlikely event that the check takes a full month to arrive. (And that’s nowhere near the most egregious documented example, which is an APR of 397%, due to a much bigger haircut and a much shorter interval between filing and refund check.)

Knowing that, you wouldn’t do it, because you know math and you don’t live paycheck-to-paycheck. But many people don’t know math, and tax preparers prey on those people with high interest “refund anticipation loans.” Why? Because they can. This is a “secondary market” which has no reason to exist other than that the federal government has overlooked the opportunity to provide such loans at rates, which while much lower for the taxpayer, still far exceed the government’s cost of capital.

The government could very simply offer its own refund anticipation payments immediately upon electronic receipt of a tax return and completion of a tax lien scan, for anyone who has a bank account. (Anyone who doesn’t have a bank account could receive a refund check printed out in the tax preparer’s office or in the mail.)

This would also get money into the hands of people sooner, which is very attractive in these economic conditions because it is likely to be spent sooner - all while turning a profit for the government thanks to the world’s lowest cost of capital.

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14 Responses to “Saving Taxpayers Money by Replacing High-Interest Loans at Tax Time with Instant Refunds”

  1. keepgrowing Says:

    you could combine this with the Stimuus Gift card so people could get more money than their refund face value right away. That would stimulate the eocnomy at no cost to the government

  2. alewis Says:

    note that this post is half-creditable to John Hoffmire, hoffmire@wisc.edu. (A little trouble with the password so he couldn’t post himself.) Write to him for many creative ideas on poverty alleviation

  3. vivian Says:

    H&R BLock just had to settle a massive lawsuit because they were misrepresenting these loans. It’s bad enough that they make them but this market is so unregulated that they can get away with misrepresenting them too.

  4. adamday Says:

    this wouldn’t even need Congressional approval AND would be very popular with voters. You wouldn’t even need to restrict it to people who get their taxes done by a preparer. A simple checkoff form right on the 1040 right underneath “REFUND DUE” would ask, “do you want 97% of this instantly credited to your bank account upon receipt?” OR “go to his webiste to get up to 110% of this number in an instant gift card”

    Those preparers seem like crooks if half of what you say is true

  5. vivian Says:

    adamday just nailed it. This creates money for people and makes m oney for the government. why aren’t they already doing this? There must be a reason. I have a really hard time believing that the ideas on this site are new. there MUST be a reasom we arean’t already doing half of what’s on here.

  6. johngalen Says:

    I am finding myself getting more and more upset as i read these things. These poistings seem so easy to do. Our incoming administration just wants to spend and spend but why aren’t they looking for solutions which dont’ require spending? Where are the Republcians when we need them? I feel like I don’t have any representation in the government. Everyone jsut wants to spend more than eveyrone else.

  7. bceconomist Says:

    The way I do the math if a refund check takes three weeks to arrive the feds could offer 99% of it on the spot, earn roughly a 15% annual rate of return AND get modest economic stimulation. Adding the gift card would probably result in about a 105% refund on the spot. Another question — your comments are so intelligent for the most part. do you print them all or just some of them?

  8. alewis Says:

    that’s right about the arithmetic. Answer to your other question Amazingly I post most of the comments. Observations are: (1) This site is hard to time so only real policy wonks can find it; (2) I can tell by looking at the incoming email addresses that I get economists from greater Boston and economics majors from all over; (3) sometimes I get personal emails from people who are too shy to post public comments because the level of discourse seems so intelligent. Those private comments are usually more mundane but they are not publicly posted. But — and you know who you are — it is still OK to post publicly. It’s anonymous.

  9. littauergal Says:

    I think the reason people don’t post even though there is a million dollar prize is that it’s way harder to come up with these ideas than you think. I’ve had my eye on that prize for a month now and can’t come up with anything — even though I am a graduate student in economics — which hasn’t either already been thought of or would require a lot of work to prove the value of. Where do you and other posters get these ideas? I spend most of my time either studying, teaching, or doing original research into a topic. But the topics are so narrow that they would never change the world. The idea of ideas is actually pretty foreign to most economists, who prefer to evaluate things already in existence and debate how to change them.

  10. friendoflittauergal Says:

    my friend told me about this site and she is right. we do not get taught in economics to find solutions generally. we get taught to analyze other people’s solutions to see if and why they work. We also get taught a set of tools which can be used to idenitfy and address market breakdowns. But what we don’t get taught is where to look for the problems to solve. What I’ve learned from this site is to assume there are problems everywhere and solve them. This one is a perfect example. Or the one about the immigrants and the housing or the brokerage fees or the hotel rooms or the insurance rider for end of life care. No one wrote “this is a big problem” and waited for economists to solve them. They had to be identified as problems first. Our profession would be much more relevant if we could identify problems rather than wait for them to blow up and then try to understand how they happened and fix them. If economists were doing their jobs this site would not exist — these things would already be in economics articles or textbooks.

  11. phdcandidate Says:

    “friend” is right. I am expert in my own narrow area but have never taken the time to come up with new ideas. I don’t think anyone in ym department consistently comes up with new ideas like this one. They just study old ones and publish a lot of obscure stuff that no one reads. There is more good orignal thinking on this one site than in all of Harvard’s economics department. OK, an exaggeration but not by much.

  12. uchicagoecon Says:

    we also spend a ton of time modeling stuff which already exists to explain current behaviors rather than propose new ones. I am rethinking economics as a career. I thought we would be solving problems like this one but this site really isn’t about economics — i don’t know what it’s about, doesn’t have a category. I am surprised you get economists posting to it

  13. madashelltaxpayer Says:

    Where do I sign up to get an instant refund gift card? This is the first smart thing I have heard in the area of taxes

  14. hillarygirl Says:

    If Obama can’t make this one or the pennies happen, or for that matter get government employees staying in “green rooms,” I don’t know what he is going to do about anything else. those are so easy and I am not altogether sure that the pennies one even needs to go before Congress. Can you also make sure to keep the comments on point? The stuff about economists should be on a different blog.

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