Millions from tax refunds go to pay hidden fees, report finds

Americans paid private tax preparers nearly $850 million in fees for special-purpose bank accounts to receive their tax refunds in the most recent tax year, according to a new government report that faulted the Internal Revenue Service for failing to warn consumers about the expense.

In a report last week, the Treasury Inspector General for Tax Administration found that nearly 22 million taxpayers used a tax refund product provided by their tax preparer last year - primarily temporary bank accounts created to receive the refund, but also loans that gave them early access to the money. Both services often come with fees, the report said - and the IRS has no warnings about them.

When she filed her federal tax return through TurboTax, the most popular private tax preparation software, Jennie Whitney expected a refund of more than $4,000. But instead of paying TurboTax its fees up front, she opted to let the company take them out of her refund.

Later, Whitney was astonished to learn that TurboTax had opened a temporary bank account for her to execute that plan - and had charged her an extra $39 to do it.

“That’s abhorrent, to charge the people who obviously need to use that service because they don’t have the money for the fee right now,” said Whitney, a Florida mother of three. “You’re going to make me pay to have you send me my own money?”

In an email, TurboTax spokeswoman Lisa Greene-Lewis defended the company’s record, saying consumers benefit from services that provide early access to refunds. “Waiting for a tax refund is never fun, and TurboTax wants to help relieve the stress of waiting with our Refund Advance,” she wrote.

While use of refund products has declined slightly over the past three years, the inspector general found that almost 16 percent of taxpayers used at least one fee-bearing product in the most recent tax year, above the cost of tax preparation. Temporary bank accounts were by far the most common, used by about 21 million taxpayers. The largest companies charged about $40 for the service, the report said, amounting to 1 percent of the average customer’s refund.

In addition, nearly a million taxpayers opted for “refund anticipation loans” offered by tax preparers. While some loans come with fees but no interest, a majority of customers took out loans with high annual rates of around 35 percent.

In its response, the IRS said that most taxpayers who file electronically and receive refunds by direct deposit get the money within 21 days, and that the IRS makes free filing options available. “It is important to recognize that many other factors beyond our control influence the decision by taxpayers on whether they choose to use tax refund products,” IRS taxpayer services division chief Kenneth Corbin wrote.

But the inspector general found that people who took on loans typically faced longer wait times: The average processing time for their refunds was 28 days. And almost all of them were owed relatively large refunds - on average, $6,696 - in part because of refundable credits such as the earned income tax credit and the child tax credit.

Refundable tax credits are one of Washington’s largest antipoverty measures. But unlike food stamps or Medicaid, they often require the recipient to pay someone to apply - by preparing their tax return.

“Instead of going to a caseworker that you don’t have to pay for yourself as the applicant, you have to go to a return preparer and pay them to apply for this benefit,” said Nina Olson, who served as national taxpayer advocate from 2001 to 2019. “It’s a hidden cost, and it shifts the burden from the government to the actual recipient, which is not what happens with the other traditional benefits.”

Some industry observers argue that tax preparation companies are providing a useful service in exchange for a small cut of refunds. A trade group for companies that offer tax-related products pointed to their millions of users as evidence that they work well for customers.

“Such products offer taxpayers the opportunity to engage a professional tax preparer without out-of-pocket costs,” the American Coalition for Taxpayer Rights said in a statement sent to The Washington Post. “These financial products are regulated, transparent and reasonably priced, and there clearly is a demand for them among taxpayers.”

Sarah Halpern-Meekin, director of the University of Wisconsin’s Institute for Research on Poverty, agreed, cautioning that some taxpayers would wait longer for their refunds - or be unable to afford the up-front cost of tax preparation altogether - without these services.

“It’s easy to critique any products that are offered that incur costs or high interest rates, but we also need to ask what happens if those go away,” she said. “Is it better to pay a fee and then get to avoid eviction or avoid having your heat cut off? There are consequences for being credit-constrained.”

Research by Halpern-Meekin showed that, in 2007, about 2 percent of federal spending on the earned income tax credit went to tax preparer and bank fees - a sum that some advocates called unacceptable.

“We don’t want corporations to be the middleman brokers for what should be free government services,” said Portia Allen-Kyle, managing director of Color of Change, a nonprofit that has found a disproportionate concentration of tax preparers in majority-Black neighborhoods. “Particularly for Black taxpayers, they have crafted a business that directly takes money out of government antipoverty programs and puts it into their coffers.”

The fees can add up. An earlier Government Accountability Office report requested by Sens. Elizabeth Warren (D-Massachusetts) and Tammy Duckworth (D-Illinois) found that some taxpayers paid an additional $10 to have their state refunds transferred to the temporary bank account. Meanwhile, some tax companies charged $25 to deliver refunds as paper checks - a service the IRS provides at no charge.

Some tax preparers also offer to load refunds onto prepaid debit cards, which can come with their own hidden fees, including charges for using an ATM.

The GAO report found that people who use these products generally have annual incomes below $40,000 and are disproportionately Black.

“The ads make it seem like a totally free service, but it ends up being an additional tax on people [who] don’t have the cash flow to pay their normal expenses,” said Jacob William Faber, a New York University sociologist. “The fact that … alternative financial service providers are kind of skimming off of these programs increases the cost of these programs in a pernicious and wasteful way.”