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February 3, 2011
Tax Refunds: More for Taxpayers, Less for Bankers

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by David Cay Johnston

David Cay Johnston is a former tax reporter for The New York Times and teaches at Syracuse University School of Law. He has also written two books about taxes, Free Lunch and Perfectly Legal.

In this article, Johnston examines the seeming benefits, and possible costs of issuing income tax refunds via debit cards and the cards' place in the history of government aid to big business.


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January 13 was an unusual day for tax policy in America, one of the few times that the poor, the desperate, and the innumerate won a victory over the increasingly powerful forces of corporate socialism in Washington. Only time -- and politics -- will tell whether this unusual victory is real or illusory.

For those not familiar with the term, corporate socialism is the de facto system by which big business uses campaign donations to buy rules that privatize gains and socialize risks, as seen most expensively with the 2008 bailout of Wall Street. It is not a new phenomenon. The Barbary Coast war was arguably a case of taxpayers bailing out maritime insurers by sending in troops with collars to protect their jugulars from cutlasses, which is how Marines became known as leathernecks.

The rare recent victory came in the form of Treasury's announcement of a pilot program to issue income tax refunds via prepaid cards to up to 600,000 people. The idea, partly developed by Prof. Michael S. Barr of the University of Michigan Law School during his time at Treasury, is to help the 17 million households without bank accounts escape high-cost check cashing services, refund anticipation checks (RACs), and refund anticipation loans.

Barr hopes for a 2 percent take rate during the pilot. That would be as few as 12,000 taxpayers without bank accounts opting for a prepaid bankcard. That is a large enough group to see how sensitive people are to the pricing differences. The pilot will allow analysis of how many people make smart use of the cards to minimize fees and maximize their benefit. Now who could be against that?

Barr also hopes that employers that pay their workers via the cards will let tax refunds be added to workers' accounts. Many people who work in fast food, lodging, and similar industries get paid by having a plastic card refreshed with their net pay every week. The efficiency of adding tax refunds would be a boon to the taxpayers and the economy.

The savings if the pilot works and some version becomes the common experience for the unbanked? Huge. Like billions of dollars huge.

The ATM cards will come with either no fee or a $4.95 monthly fee if a taxpayer has the ability to add money to it. Of course, the small Utah bank picked for the pilot is hoping that people will hang on to their card, paying steady monthly fees and adding money to it from other sources. And they have to be hoping that people will pay no attention to whether the ATM issuing them cash is a free in-network machine or an out-of-network ATM with a $2.50 charge that will be split between the machine's owner and the Utah bank holding the deposit.

The implication is that if people are smart and withdraw the money or spend it as quickly as they can, there is little incentive for bankers to stay engaged or to expand the product to millions of people. Still, even if people take, say, three months to withdraw the money and run up 10 out-of-network charges, the cost would be under $40.

Compare this with the latest usurious offering of Republic Bank, the lending partner of tax return preparer Jackson Hewitt. A RAL of up to $1,561.22 costs $61.22. At the maximum loan amount, that's the equivalent of a 149 percent annual interest rate because the loan is only for a few days, according to calculations by the National Consumer Law Center and the Consumer Federation of America.

If those numbers strike you as odd, note that the refund, minus the fee, comes to $1,500. The maximum that Republic will lend in anticipation of a refund carries a fee of almost 4 percent of the gross. If a refund is just $500, the fee is more than 12 percent of your refund. That's a lucrative business.

And for refunds of more than $1,561.22? That is just too risky for Republic Bank. So instead of a bigger loan, Republic issues Jackson Hewitt clients a RAC for an extra fee of $29.95.

Those two fees come to almost two days' take-home pay for a minimum-wage worker.

That kind of fee gouging comes thousands of years after the ancient Sumerians, Israelites, Athenians, and Egyptians figured out that finance had to be regulated, in part because humans are often blind to the costs of borrowing and because the numerate can easily prey on not just the vulnerable, but also the innumerate.

Michael S. Barr, Treasury's assistant secretary for financial institutions (Photo courtesy of University of Michigan Law School)The enforcement side of these ancient financial regulatory regimes was pretty simple, too. For some proven violations the penalty was swift and certain: death. Sometimes it extended to the family of the offender.

Getting tax refunds into the pockets of taxpayers would seem a laudable goal that would inspire universal support. But alas, not in modern-day Washington, where the rich and powerful have the private and cellphone numbers of members of Congress and key staffers on speed dial, while the poor get voice-mail recordings and few callbacks.

Just one week after this money-saving pilot program was announced, we heard from two Republican lawmakers who made it clear they plan to scrutinize the proposal with an eye on the profits of bankers. Of course, that is not the way they put it in their January 21 letter to Treasury Secretary Timothy Geithner.

House Ways and Means Committee Chair Dave Camp, R-Mich., and Charles W. Boustany Jr., R-La., who heads the Oversight Subcommittee, began with expressions of concern that consumers would pay unnecessary fees.

"We are concerned about any fees that card holders may be assessed, either on a monthly basis, for inactivity, or overdrafts," Camp and Boustany wrote. Not a word here about usurious lender fees for RALs and RACs. And no research either -- the pilot program does not allow overdrafts, hence no need to worry about overdraft fees. (For the letter, see Doc 2011-1492 or 2011 TNT 15-105.)

But then Camp and Boustany got to their real agenda, protecting bankers:


    We are also concerned about "mission creep." The program appears to have begun as a narrowly crafted solution to a narrow problem: reducing the number of paper checks by getting tax refunds in the hands of those who may not have bank accounts. However . . . the program seems to now have morphed into an effort to establish ongoing bank accounts for low-income taxpayers. Since the financial services industry is already competitive (with banks and credit unions actively pursuing new account holders), we question the wisdom of the Federal Government becoming so involved in the financial affairs of individual taxpayers.

Camp is the kind of politician who relies primarily on the kindness of big business, not local constituents, to stay in office. In the last election, he got 76 percent of his money from political action committees, 21 percent from large individual contributions, and just 2 percent from small donations. And Camp has always been a candidate financed by corporate interests. Since he came to Washington in 1989, PACs provided 61 percent of his campaign money.

This concern by Camp and Boustany will grow into more inquiries and antagonism if the pilot project proves a way to help those on the lower economic rungs get more of their tax money back at the expense of big banks and return preparation firms. The debate is almost certain to turn on how the bankers are being somehow abused and shortchanged, not on ordinary Americans due refunds.

On December 24, 2010, H&R Block announced that it would no longer offer RALs after its primary bank, HSBC Holdings PLC, said it would stop underwriting the loans. HSBC's exit from the RAL industry shrank the lender market but doesn't directly affect other loan vendors because H&R Block was the bank's only RAL customer. (For prior coverage, see Tax Notes, Jan. 3, 2011, p. 30, Doc 2010-27413 , or 2010 TNT 248-1.)

Reacting to the development, Alan Bennett, H&R Block's president, used a most curious choice of verbs in a statement bemoaning how "millions of taxpayers will be deprived of credit, or they will be forced to use higher-priced alternatives, without the slightest benefit to the solvency of HSBC or the banking system in general."

Actually, it's more like the company will be deprived of an easy 3 percent markup on $1,500 loans that are as close to riskless as it gets. Of course Bennett's duty is to the entity he heads, not to HSBC, but it's nice to see how exploiters of the poor stick together until tax law enforcement finds a way to separate their interests.

HSBC is a global enterprise with one of those meaningless names. The four letters come from its history as the Hong Kong and Shanghai Bank, but its Dilberts say the acronym stands for Hugely Successful British Corporation.

Bennett was undaunted by HSBC's backing out of this sleazy business. In a statement issued on Christmas Eve, he declared his determination to continue squeezing money from the poor, the desperate, and the innumerate. "While we are very disappointed" that the Office of the Comptroller of the Currency rejected the latest RAL proposal, he said, "we have been preparing for the loss of RALs, so we have several other financial products available and under development for this tax season."

How many ways will Congress find to help the banks and tax firms by using government interference in the market?

Your thoughts? E-mail me at JohnstonsTake@tax.org.

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