Recently, the federal Deposit Insurance Corporation issued a report in its FDIC Quarterly publication regarding “alternative financial services.” “Alternative financial services” is a broad term for credit products that fall outside the mainstream of a “traditional” mortgage loan or a “traditional” auto finance transaction, including payday loans, check cashing, and rent-to-own transactions. According to the FDIC, creditors originate more than $320 billion in alternative financial services transactions each year.
One slice of this market—which accounts for some $26 billion a year—that has generated particular ire from consumer advocates includes refund anticipation loans (RALs). RALs are short-term loans, usually no more than two weeks, offered by tax preparers as a way to get money into the hands of consumers who need it in advance of the actual tax refund. The expected tax refund secures the RAL. Banks generally fund the RALs through partnerships with tax preparers. As recent developments show, the RAL industry continues to face scrutiny in the way it operates.
In February, the FDIC announced a consent cease and desist order against Kentucky-based Republic Bank & Trust Company in connection with the bank’s Tax Refund Solutions program. The order provides, in part, for additional training and monitoring of third-party electronic return originators with whom the bank partners in providing RALs. Although not included as part of the consent order, published news reports indicate that the FDIC determined as part of the bank’s Community Reinvestment Act evaluation that the Bank violated Regulation B, which implements the Equal Credit Opportunity Act, specifically related to the RAL program. The FDIC cited the bank for requiring both spouses who file a joint tax return to sign an RAL check, even if one spouse opted out of the RAL transaction.
Under the federal Equal Credit Opportunity Act and Regulation B, a creditor can require a non-borrowing spouse to sign a loan or a security instrument. Regulation B provides that if an applicant requests secured credit, a creditor may require the signature of the applicant’s spouse or other person on any instrument necessary, or reasonably believed by the creditor to be necessary, under applicable state law to make the property being offered as security available to satisfy the debt in the event of default. The Commentary to Regulation B indicates “[g]enerally, a signature to make the secured property available will only be needed on the security agreement.” A creditor can therefore require a non-titled, non-borrowing spouse to sign a security instrument to ensure that the property offered as collateral is available to satisfy the debt in the event of default. The creditor may not require the spouse to sign the note evidencing the credit obligation if signing only the security agreement is sufficient to make the property available to satisfy the debt in the event of default. Here, the bank could not demonstrate that any law required the non-borrowing spouse to sign the RAL check, thus obligating them under the terms of the loan agreement. The bank agreed to improve its training of its tax preparers.
The Republic Bank consent order points out the need for tight management control of the bank’s third-party relationships with tax preparers.
In addition to the federal requirements for banks to manage their third-party relationships with tax preparers, many states regulate the conduct of these businesses. In North Carolina, police charged a tax preparer with a Liberty Tax Service franchise with 28 counts of fraud. Angela Lea White allegedly helped Latino customers with their personal income tax forms and manipulated the forms so that consumer refunds would be loaded onto a temporary debit card. She also allegedly took out RALs using customer identities.
North Carolina has had its regulatory eye on tax preparers that offer RALs for some time, enacting the Refund Anticipation Loan Act in the late 1980s to specifically target tax preparers who want to offer RALs. Such a tax preparer must register as a “facilitator” with the North Carolina Commission of Banks in accordance with the registration procedure provided in the Act. A facilitator is a “person who individually or in conjunction or cooperation with another person processes, receives or accepts for delivery” an RAL application, a check in payment of RAL proceeds, or who in any other manner facilitates the making of a refund anticipation loan. Failure to register is a misdemeanor punishable by up to $2,000. North Carolina exempts banks, savings associations and credit unions organized under federal or North Carolina law. Registered facilitators must file their loan fees and interest rates with the Commission and post them at the place where they facilitate RALs. If the Commissioner of Banks identifies an RAL fee as unconscionable, the Commissioner will notify the registered RAL facilitator that the fee is, in his opinion, unconscionable, and that the consequences of charging an unconscionable fee include liability to the taxpayer for three times the amount of that fee and possible revocation of the facilitator registration. The Act also imposes various disclosure requirements and prohibits certain specified activities, including directly or indirectly arranging for payment of any portion of the RAL for check cashing, credit insurance or any other good or service unrelated to the preparation and filing or tax returns or the facilitation of RALs. The North Carolina statute mirrors a model Refund Anticipation Loan Act promulgated by the National Consumer Law Center.
In Michigan, the state legislature has taken up House Bill 4166 and House Bill 4607, which would prohibit tax preparers that offer RALs from:
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Requiring a consumer to enter into an RAL in order to complete a tax return;
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Misrepresenting a material factor or condition of granting the RAL (without, of course, describing what a material factor or condition would include);
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Failing to process an RAL application;
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Engaging in any fraudulent transaction or practice in connection with the RAL.
HB 4607 also would allow consumers to rescind the RAL on or before the close of business on the business day following the day the loan is made. Violations of HB 4607 could result in a criminal misdemeanor charge punishable by a maximum fine of $500 and 93 days in jail. HB 4166, which includes the disclosures a tax preparer would have to make in connection with the origination of an RAL, would require the tax preparer to “clearly disclose” a raft of information on a form separate from the application, including:
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a listing or table of RAL fees and the APR charged by the lender for 3 or more representative RAL amounts;
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the average time announced by the IRS or the Michigan tax authority within which the taxpayer can expect to receive a refund if the taxpayer does not obtain an RAL;
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the taxpayer’s responsibility for repayment of the RAL and all fees in the event the taxing authority does not pay a refund.
The Michigan House has approved both bills, which are currently pending in the Michigan Senate Banking and Financial Institutions Committee.
Cathy Brennan is a partner in the Maryland office of Hudson Cook, LLP. Basis Points readers can reach Cathy at 410.865.5405 or by email at cbrennan@hudco.com.