Eliminating Access to the Debt Indicator

IRS recently announced they will eliminate the debt indicator for filing season 2011. The debt indicator shows up after a tax preparer e-files a tax return. It is simply an information message that tells whether the taxpayer owes any federal debt that would cause the refund to be less than expected. Federal debt can arise from back taxes owed, unpaid child support or other payments that are due to the federal government.

Tax preparers latched onto this long ago to determine a taxpayer’s ability to payback a RAL or Refund Anticipation Loan. A RAL is basically a short term loan that can get a taxpayer their refund in about 24 hours. Without a RAL, obtaining a refund can take about 5-10 business days. Since this is a government payment, a clean debt indicator nearly guarantees the loan will be repaid. Back in February of this year, the National Consumer Law Center reported that consumers paid $738M in fees to obtain RALs in 2008. This figure includes only fees, not interest accrued on the loans. Though, admittedly, these are short term loans, NCLC reports the annual percentage rate can reach triple digits.

Removing the debt indicator will undoubtedly make preparers unhappy since RALs are a money maker for many of them. Simply put, it cuts into their profits if it’s more difficult to offer RALs. Consumer advocacy groups will probably call this as a positive move to eliminate RALs, because they’re labeled as costly at best and predatory at worst.

My own suspicion is that it’s more of a bump in the road than a game changer. Eliminating the debt indicator simply means these loans now become riskier so, guess what, the cost will go up. Preparers may substitute a Power of Attorney (POA) form for the debt indicator. A POA allows them to contact the IRS and check the taxpayer’s account to determine if there is any past due tax debt. Or maybe preparers will rely on good old fashioned credit scores to determine the risk of lending. Either way, this is not a sufficient deterrent to put an end to RALs. RALs are a cash cow and preparers are not likely to give them up so easily.