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UPDATE (April 2012): Since this story first appeared, the refund anticipation loan business has taken additional hits. According to the New York Times, only one major tax preparer is offering them this year. After cutting a deal with the FDIC, Republic Bank & Trust, which underwrites RALs peddled by the Jackson Hewitt chain, is getting out of the business. But the preparers, as Gary Rivlin explains below, have a range of tricks in store to reel in new customers.

JOHN HEWITT WASN’T seeking to turn the working poor into cash cows when his father and some friends helped him buy a six-store tax-service chain in Virginia Beach back in 1982. A 33-year-old college dropout who’d recently left his post as a regional director for H&R Block, Hewitt bought the Mel Jackson Tax Service hoping simply to break his old employer’s near-monopoly on the market. “We’re going to be bigger than H&R Block!” he liked to boast, though his operation was a mere tadpole challenging a leviathan with 7,000 stores in middle-class neighborhoods across the country. Hewitt renamed the company Jackson Hewitt and bet that his early embrace of computers would give him a leg up on his former bosses. But it wasn’t until he began offering something called a refund anticipation loan (RAL)—a product aimed at down-market customers desperate for cash—that his chain really took off.

Over the years, entrepreneurs and corporate executives have devised any number of clever ways for getting rich off the working poor, but you’d have to look long and hard to find one more diabolically inventive than the RAL. Say you have a $2,000 tax refund due and you don’t want to wait a week or two for the IRS to deposit that money in your bank account. Your tax preparer would be delighted to act as the middleman for a very short-term bank loan—the RAL. You get your check that day or the next, minus various fees and interest charges, and in return sign your pending refund over to the bank. Within 15 days, the IRS wires your refund straight to the lender. It’s a safe bet for the banks, but that hasn’t stopped them from charging astronomical interest rates. Until this tax year, the IRS was even kind enough to let lenders know when potential borrowers were likely to have their refund garnished because they owed back taxes, say, or were behind on child support.

Hewitt didn’t invent the refund anticipation loan. That distinction belongs to Ross Longfield, who dreamed up the idea in 1987 and took it to H&R Block CEO Thomas Bloch. “I’m explaining it,” Longfield recalls, “but Tom is sitting there going, ‘I don’t know; I don’t know if people are going to want to do that.'”

But Longfield knew. He worked for Beneficial Corp., a subprime lender specializing in small, high-interest loans for customers who needed to finance a new refrigerator or dining-room set. His instincts told him the RAL would be a big hit—as did the polling and focus groups he organized. “Everything we did suggested people would love it—love it to death,” he says.

He also knew Beneficial would make a killing if he could convince tax preparers—in exchange for a cut of the proceeds—to peddle this new breed of loan on his employer’s behalf. Ultimately, Longfield persuaded H&R Block to sign up. But no one was as smitten as John Hewitt—who understood that people earning $15,000 or $20,000 or $25,000 a year live in a perpetual state of financial turmoil. Hewitt began opening outposts in the inner cities, Rust Belt towns, depressed rural areas—anywhere the misery index was high. “That was the low-hanging fruit,” he says. “Going into lower-income areas and delivering refunds quicker was where the opportunity was.”

Customers wanting a RAL paid Jackson Hewitt a $24 application fee, a $25 processing fee, and a $2 electronic-filing fee, plus 4 percent of the loan amount. On a $2,000 refund, that meant $131 in charges—equivalent to an annual interest rate of about 170 percent—not to mention the few hundred bucks you might spend for tax preparation. “Essentially, they’re charging people triple-digit interest rates to borrow their own money,” says Chi Chi Wu, a staff attorney at the National Consumer Law Center.

In 1988, the first year he began offering the loans, Hewitt owned 49 stores in three states. Five years later, he had 878 stores in 37 states. And five years after that, when Cendant Corp.—the conglomerate that owned Avis, Century 21, and Days Inn—bought Jackson Hewitt for $483 million, his earliest backers received a $2 million payout on every $5,000 they’d invested. Today, with 6,000 offices scattered across the country, Jackson Hewitt is more ubiquitous than KFC, and has about as many imitators.

THERE WOULD BE NO refund anticipation loans, of course, without tax refunds. And by extension there would be no RALs without the Earned Income Tax Credit, the federal anti-poverty initiative that served as the mother’s milk nourishing the instant-refund boom. Welfare reform was the catalyst for the EITC, which was aimed at putting extra cash in the pockets of low-income parents who worked. What motive does a single mother have to get a job, conservative thinkers asked, if there was scant difference between her monthly take-home pay and a welfare check? It was Richard Nixon who first floated the idea that led to the Earned Income Tax Credit; Ronald Reagan dubbed it “the best pro-family, the best job creation measure to come out of Congress.” In 2007, the US Treasury paid out $49 billion to 25 million taxpayers.

“It’s a beautiful, beautiful thing that Richard Nixon gave the country,” muses the founder of one tax-prep chain.

“It’s a beautiful, beautiful thing that Richard Nixon gave the country,” muses Fesum Ogbazion, founder of Instant Tax Service, the country’s fourth-largest tax-prep chain behind H&R Block, Jackson Hewitt, and Liberty Tax Service—the outfit Hewitt founded after leaving his eponymous company. On this year’s sliding scale (PDF), a single mother of two making $16,000 a year gets a $5,000 tax refund; if she earns $25,000, her windfall is $3,200. “People basically start bombarding us with calls at the end of December,” Ogbazion says. They all ask the same few questions: “‘Can I do my taxes with my pay stubs?’ ‘Do I have to wait for the W-2?’ It’s nuts.” The IRS starts accepting returns around January 15. By mid-February, Ogbazion will have filed on behalf of more than four-fifths of his clients. “By the time the rest of the world is starting to get serious about their taxes,” he says, “I’m already thinking about next year.”

Ogbazion is a native of Ethiopia whose family moved to the United States when he was nine years old. He opened his first tax-prep shop when he was a sophomore in college. By that point, several large banks had jumped into the business. Ogbazion began brokering RALs on behalf of Bank One, now part of JPMorgan Chase. By 1999, when he sold his chain to Jackson Hewitt for $3 million, Ogbazion was up to 26 shops, all in the greater Cincinnati area. Just 27 at the time, he decided to start a new chain, Instant Tax, setting up headquarters in Dayton, Ohio. By that point, the most desirable spots—those in the city’s poorest precincts—were taken, so he started opening stores in working-class suburbs. “I moved to where opportunities were still available,” he says with a shrug when I meet him at his stylish office in one of Dayton’s pricier downtown towers. Today, Instant Tax boasts about 1,000 outlets, mostly owned by independent operators who pay Ogbazion a one-time $34,000 franchising fee, plus 20 percent of their gross revenues.

“We recommend that you locate your office where the household income is $30,000 or less,” the Instant Tax manual counsels. Each franchisee attends a week of training sessions where “unbelievable emphasis was put on poor minorities,” according to former franchisee Habtom Ghebremichael, who recalls a trainer telling his group, “We cater to the ‘hood.” His archetypal customer, Ogbazion says, is an assistant manager at a fast-food restaurant earning $19,000 a year. “They’ve burned the banks,” he says. “They’ve bounced too many checks. They’ve mismanaged their finances.” Experience has taught him that a few amenities (a ficus tree, free coffee, TV in the reception area) go a long way in making customers feel welcome. “At the check-cashing place, they’re talking to someone behind bulletproof glass,” Ogbazion continues. “The welfare building—you can imagine what that’s like. Here, we treat them well, and they want to come back.”

REFUND ANTICIPATION loans aren’t the primary source of revenue for Instant Tax, Jackson Hewitt, or any of the tax millheres. The main moneymaker has always been the hefty fees they charge to prepare returns. But the RAL gets people through the door. “Obviously, that’s why people come to us,” Ogbazion says. “Because we can get them their money quickly.” Previously, those customers might have struggled on their own or taken advantage of free help that the IRS and others provide to low- and moderate-income taxpayers. The RAL also ensures that the client pays in full, and maybe that’s the real genius of it: The preparer’s fees and finance charges are taken directly from the refund.

DIMINISHING RETURNS Let’s say you earn roughly $25,000 a year as a file clerk. You’ve got two kids and an elderly dependent. You don’t itemize, you qualify for the Earned Income Tax Credit, and you’re due a federal refund of $3,978. Here are some tax-prep options, based on one real-life example.* PREPARERS PRICE FOR FEDERAL RETURN SHARE OF REFUND WAIT FOR REFUND DIY, MAIL-IN a few stamps 0 6-8 weeks IRS.GOV free software if income <$58K 0 8-15 days IRS VITA PROGRAM free human tax-prep if income <$49K 0 8-15 days TURBOTAX.COM free for “simple” returns 0 8-15 days INDIE PREPARER/CPA $95-$125** 2-3% 8-15 days JACKSON HEWITT

(W/REFUND ANTICIPATION LOAN) $431*** 11% same day

Longfield concedes that his innovation drains money from what is arguably the nation’s most effective anti-poverty program, but he says it’s the customer’s prerogative. As for Ogbazion, he views Instant Tax and its competitors as beacons of hope. “Look at where our stores are,” he says. “There’s no Gap. There’s no Nordstrom. We employ people from the neighborhood. We’re paying rents in those neighborhoods. We’re contributing to the tax base.” The flip side of this argument is that instant tax mills are part of a phenomenon that lasts barely four weeks yet sucks up roughly $4 billion each tax season.

“These businesses are in this neighborhood for one reason: They see they can make a killing here,” says Ramon Dalmasi, an accountant with a front-row seat on the growth of the instant tax business. Dalmasi opened a bookkeeping business in the Bronx in 1997 and watched as chain after tax-prep chain popped up on commercial strips in his community. A few years ago, he relocated to Yonkers, an aging suburb just north of New York City, and found the same chains there as well. “They don’t see people struggling to put food on the table,” he says. “They just see people who can make them millions.” Even without a RAL, a working parent who qualifies for the EITC often pays $300 or more at a tax mill. Dalmasi, a CPA who teaches accounting at nearby Lehman College, charges that same client $75 or $100. “Why should I charge anything more than that,” he asks, “when it’s taking me 20 minutes?”

Others in the poverty business have rephrased that question: Why not get into a business where 20 minutes of work can yield a few hundred dollars in fees? Outfits like Refunds Today offer software (“requires absolutely no tax preparation knowledge”) that walks enterprising pawnbrokers or check-cashers or payday lenders through the process. Why settle for the $100 you’ll make cashing a customer’s tax-refund check, asked a guest columnist for Cheklist, the trade publication for the nation’s check-cashers, when a fat $400 payday “sits 10 minutes of data entry away?” Then there’s Tax Max, which claims that 3,000 auto dealers use its software, and TaxStar, whose “dealership portal” features testimonials from sales managers grateful for a way to put a few thousand dollars—instantly!—in the pockets of a customer, right there on the lot.

In 2008, more than 8 million Americans shelled out $738 million for refund anticipation loans, according to industry watchdogs (PDF). When I visited Ramon Dalmasi, he told me he discourages customers from taking a RAL—but he did have a neon “Rapid Refunds” sign in his window and several posters promising instant cash. “We’re in a poor neighborhood,” he explained. Advocates scored a victory of sorts when, starting in 2008, the big tax chains and lenders lowered their RAL fees. “We basically shamed them into it,” says consumer attorney Wu. Even so, a customer seeking an instant refund at H&R Block last year paid a $29.95 “refund account fee,” a $24.95 “instant RAL surcharge,” and a $20 “check processing fee” on top of a finance charge tied to loan size. On a $2,000 refund, that worked out to 128 percent annual interest.

BY THE WINTER of 2010, there were six tax-prep stores on the 400 block of South Broadway, a scruffy commercial strip in Yonkers that also hosted three 99-cent stores, a pair of check-cashing outlets, and a Rent-A-Center. H&R Block occupied the prime spot, a few steps from where a bus disgorged passengers returning from the city. A half-block to the north sat a Jackson Hewitt. A half-block to the south, across the street from Dalmasi’s shop and a few doors away from a storefront with a Liberty Tax Service sign in the window, was Alan Meister’s Instant Tax franchise.

Ogbazion had arranged for me to spend time with Meister, one of his franchisees, promising, “You’ll see for yourself the quality of service we provide.” It was a narrow sliver of a store, barely wide enough for the four desks that sat one behind another against the wall. Meister set up shop in the fall of 2009, after several decades with Ernst & Young. He lives 20 miles away in Chappaqua, where the median household income is $207,747 (and where the Clintons own a home), but leased a storefront in this mixed-race community because its household income was about a quarter as much. Another huge plus, he told me, “was there was a very high proportion of people receiving the Earned Income Tax Credit.”

It was Meister’s rotten luck that in December 2009, only weeks before he was to open, federal regulators ordered Santa Barbara Bank & Trust out of the RAL business. Although tax loans were its most profitable division, the bank had taken huge losses in the subprime meltdown and had failed to meet its capital requirements. It was Santa Barbara that underwrote the RALs Instant Tax offered, and it was too late to find another bank.

So Meister adapted. The sign in his window read, “Stop in, get your taxes done, and leave with TaxCash the same day!” But when anyone inquired about a RAL, he pontificated about the banking crisis and how credit had basically dried up for everyone. “There might be some stores advertising it,” he said (to me and anyone who stopped in), “but the reality is that few will actually get a refund anticipation loan.” In fact, competitors down the street were still offering RALs—small businesses and the middle class may have been starved for credit, but banks were still more than willing to play emergency banker to the working poor, at least when the loans were more or less guaranteed by the IRS. Meister was similarly evasive about pricing. “A couple of hundred dollars,” he’d say, though invariably he charged $300 and up. When I pressed him, Meister insisted that he was charging around $200, but there was a $59 e-filing fee and a $100 “technology” fee that went to the company licensing its software to Instant Tax. (Ogbazion told me the software company charged $17 per return, not $100.)

One customer who bought Meister’s services early that January was Fred B. Newman, a custodian at a local hospital. A father of two, Newman anticipated a refund of around $4,000. He was behind on his electric bill and carrying a balance on a high-rate credit card. “Nothing too bad,” he said, though he wanted his money as fast as possible. Meister, unable to offer him a RAL, talked him instead into buying something called a refund anticipation check, or RAC.

It wasn’t clear why Newman would pay $42 for a RAC, which doesn’t ensure an instant refund. The RAC is meant for customers who lack bank accounts or who can’t afford to pay up front for tax preparation—it’s basically a charge for a temporary account where the IRS can deposit the refund, and from which a preparer can deduct his fees. Newman already had a checking account and a means of payment, but Meister put him down for a RAC without bothering to explain its purpose. “I can make that $42 go away if you don’t mind waiting on the IRS,” he said when Newman noticed the extra charge. He added that if Newman was worried about the price (his bill now totaled almost $400), he could simply wait six to eight weeks—the time it takes for a check to arrive when you’re filing by mail.

“I can’t wait that long.”

“It’s your call,” Meister replied.

In fact, Newman was already paying Meister an e-filing fee and thus, according to the IRS, would be getting his money no more than 15 days after filing—with or without a RAC.

AT THE TIME, Meister told me he hoped to open a dozen or more Instant Tax shops around New York. In the end, though, he gave up after only one tax season; 2010 was a miserable year, in no small part because he couldn’t offer the refund loans. Jackson Hewitt also relied on Santa Barbara for some of its loan volume, so half of its stores were unable to offer a refund loan last year.

While bank regulators in Washington have stopped short of outlawing refund loans, they’ve managed to make life more difficult—and therefore less profitable—for the banks.

The post-subprime environment has been tough for low-rent tax preparers. “The current administration does not look favorably on these products,” says Vishnu Lekraj, a stock analyst who follows the tax-prep chains for Morningstar. While bank regulators in Washington have stopped short of outlawing RALs, they’ve managed to make life more difficult—and therefore less profitable—for the banks. The new official line is that so long as tax preparers are selling these loans, the banks must supervise them more closely: Put better audits in place. Make sure they adequately train their people. Monitor their marketing efforts. Last April, shortly after the end of the 2010 tax season, JPMorgan Chase announced it was getting out of refund loans altogether, leaving 13,000 independents, including Ramon Dalmasi, scrambling for an alternative lender.

The industry took an even bigger punch in August, when the IRS announced it would stop providing lenders with a “debt indicator” letting them know whether a taxpayer was likely to have a refund garnished for back taxes or other debts. (“It’s a product provided by the private sector,” IRS spokesman Dean Patterson said of the RAL, though he declined to explain the agency’s decision. “We neither endorse it nor try to dissuade people from using it.”) In the past, according to a study by one consumer group, the IRS gave the thumbs-down to at least 1 in 12 people seeking a refund loan. Without that handy information, these loans are much riskier. HSBC, the London-based bank that was under contract with H&R Block to underwrite tax loans through 2013, announced that without the debt indicator, it was getting out of the RAL business. Block sued, and the two parties came to an agreement, but then, just weeks before the start of the current tax season, federal regulators told HSBC it could no longer offer RALs. The feds offered no official explanation, leaving consumer advocates to wonder whether the bank had used its government connections to extract itself from a business that suddenly looked a lot less profitable.

Block’s bad fortune is nevertheless terrific news for Hewitt’s Liberty Tax Service and his old company, which have made arrangements to offer RALs at most of their stores this season, although Hewitt told me in January that his lender, Republic Bank, intended to nearly double its rate, meaning his clients will pay more for fast refunds this year. Shares of Jackson Hewitt stock jumped 30 percent—and shares of H&R Block tanked—the day after the feds’ HSBC decision was announced. The long-term outlook, however, depends on whom you ask. “If you tell me who’s going to be elected president in two years, I’ll tell you if we’ll still have RALs,” Hewitt says. Morningstar’s Lekraj, for his part, is convinced RALs soon will be a thing of the past. “Block will no doubt be losing customers to these other two entities,” he explains. “But that’s over the next tax season or two. It’s my belief that long-term, everyone will be in the same position.”

Consumer advocates, however, warn that private-equity groups and hedge funds are eyeing the RAL business. Santa Barbara Bank & Trust, the bank that federal regulators banished at the end of 2009, is back this year as the Santa Barbara Tax Products Group—now owned by a private-equity firm.

In any case, the use of some kind of rapid-refund mechanism to fleece low-income taxpayers is practically a given. “My experience is that these companies can get really creative given the stakes,” says David Rothstein of Policy Matters Ohio, a Cleveland-based advocacy group that’s part of a coalition fighting the instant tax mills. For starters, there’s the RAC, which brought in about $400 million for the industry last year, and is often nothing more than a pricey way of ensuring that the preparers get their money right away. And there are other potential growth areas, like debit cards. H&R Block, for one, will happily put your refund on its “Emerald Card” for a $45 fee. There’s also the so-called preseason or “paystub” loan (PDF), a partial advance of maybe $1,000 against a person’s refund granted in December or early January, before the taxpayer has even received a W-2. The charges on Instant Tax’s preseason loans are low compared with a RAL, Ogbazion told me, and work out to an APR of around 25 percent. But then, no matter what the big chains dream up as a RAL replacement, nothing counts more than the steep fees they charge to do someone’s taxes. “You do what you can to get people into your store,” Ogbazion says. Bottom line: With all that cash sloshing around low-income neighborhoods each tax season, no one expects the ambitious preparer to give up without a fight.

Read also: The megalenders, payday loan inventors, and pawnshop popularizers behind the logos.