Why You Should Avoid Tax Refund Advance Loans

You may not enjoy doing your taxes, but the tedious process may result in a big tax refund.

Getting a few thousand dollars from the government can go a long way in helping you pay off some bills, take a vacation, or splurge on something you've really wanted.

Typically, depending on how you choose to receive it, your tax refund could take up to several weeks to end up in your hands.

Some companies offer a tax refund advance loan, which allows you to get that money much faster.

But:

You want to avoid these tax refund advance loans because they can be expensive due to high interest rates and varies fees involved.

Find out how these loans work and learn exactly how they take advantage of cash-strapped taxpayers.

What is a Tax Refund Advance Loan?

A tax refund advance loan is a type of loan that is designed to give you access to your tax refund before you receive it from the IRS.

When you file your tax return, you know how much receive in the form of a tax refund.

A tax refund advance loan is a loan that you can take before you file your tax return, in anticipation of receiving a refund.

Tax companies will take a quick look at your financial information to roughly calculate the size of the refund that you should receive and will offer to lend you that much money.

You will get the money, even before you file your tax return, which means you can get access to the money much sooner.

The idea is:

The tax prep company will take a portion of your tax refund equal to the amount of the tax refund advance loan (plus any interest owed). 

Where to Get One

Everyone has to file their taxes, so tax refund advance loans are a big market.

There are numerous companies that provide tax refund advance loans, including banks, specialized lenders, and tax preparation companies like TurboTax and H&R Block.

How You Receive the Refund Advance

Typically, a refund advance loan is disbursed via two methods:

• Direct deposit into a bank account
• A prepaid card

These loans are usually issued very quickly -- as soon as the same day.

Cost

Tax refund advance loans vary widely in cost.

Usually, you can take a tax refund advance loan for 0% APR up to the first $1,000.

If you want to borrow more, there is likely to be an extremely high interest rate.

Here's the catch:

If you opt to receive the tax refund advance loan through a prepaid card, there may be a list of fees that apply to that prepaid card account. You might end up losing a bunch of money just to access those funds.

For example, if you wanted cash, you'd have to withdraw it through your prepaid card at an ATM, which may result in varies ATM fees.

Pros

The reason that tax refund advance loans exist is because of the big demand for them.

Very quick access to funds

The main advantage of a tax refund advance loan is that you get access to the money you’ll receive in your refund sooner than you would have had you waited for your refund to be processed by the IRS.

The money could help with urgent financial obligations.

These are secured loans

Essentially, a tax refund advance loan uses your tax refund as collateral (also known as a security deposit) to take out a lump-sum loan.

That's why there's a high chance of approval.

Usually, there is no hard inquiry on your credit report, which means that your credit score will not be affected when you take out a tax refund advance loan. Also, bad credit does not necessarily mean that you'll be denied.

Not all of them are expensive

Depending on who issues the tax refund advance loans, they can be relatively inexpensive.

Some reputable providers offer 0% APR, no-fee refund advance loans for very small amounts. 

Cons

And, not surprising, here are the cons to consider before using tax refund advance loans.

Fees involved

By using a tax refund advance loan, you’re getting your money sooner, but you’ll pay a price for it, whether it be in the form of interest or other fees.

If you waited until you received your refund check, you would wind up with more money overall.

Bad habit

Using tax refund advance loans can cause you to get used to having bad financial habits.

If you’re relying on your tax refund to pay a bill, that’s not a good thing.

Instead, you should be including these kinds of things in your budget and saving for them throughout the year.

Using a tax refund advance loan reinforces the habit of not budgeting or having a saving buffer, such as emergency fund.

Should You Use One?

It’s difficult to recommend that anyone should use a tax refund advance loan.

The costs of tax refund advance loans can be incredibly high.

Often:

The interest rates on these loans are as high -- or higher -- than credit card rates.

It can be tempting to get one, but you should resist the temptation.

Think of tax refund advance loans like payday loans. They exist and are a last resort for many people, but they are incredibly expensive and can trap you in a cycle of debt that you cannot escape.

Avoid them if at all possible.

Alternatives

If you need to borrow money during the tax refund season, consider these alternatives.

Personal loans

Personal loans are a strong alternative to tax refund advance loans if you need to borrow money.

Personal loans are flexible loans that you can use for nearly any reason.

You can use personal loans for almost any reason, such as paying an unexpected bill, consolidating debt, or funding a home improvement project.

The interest rates on these loans are high when compared to loans like mortgage or auto loans, but the APRs are much lower than credit cards and most tax refund advance loans.

Borrow from friends or family

Most people’s tax refunds won’t amount to more than a few hundred or thousands of dollars.

If you need the money quickly, you might be able to find a friend or family member who trusts you who is willing to loan you the amount, especially if it is a small amount.

Borrowing money from friends and family can be a difficult social situation to navigate.

You should take steps to document the loan and make it as legal and official as possible to show that you are committed to paying it off and to set clear expectations for all parties involved.

Wait

The easiest solution is to simply wait for your tax refund to go through.

File your taxes as early as possible and choose to receive your tax refund through direct deposit. This is the quickest way to get your refund.

While waiting isn’t easy, glamorous, or fun, it’s the easiest way to make sure you avoid losing money on a tax refund advance loan.

Conclusion

Getting a tax refund advance loan can be tempting, but it is generally a bad idea.

Avoid the temptation and consider one of the alternatives instead.