Avoiding Early Tax Refund Loans

March 28, 2005

Tax Return Form with One Hundred Dollar BillThinking about getting an early refund loan when you have your taxes done? Those early refund loans are a bad idea from a frugal point of view - the effective interest rate on them is sky high.


Example: Let's say you are owed $500 as a refund and get an early refund loan for $475 ($500 - $25 fee charged by lender). Let's say you would have gotten your refund in 6 weeks anyway so you paid $25 to have the use of $475 for 6 weeks. That means your effective interest rate is $25/$475 = 5.26%. So you are paying 5.26% in interest every 6 weeks in effect. If you annualize that rate to see what the annual percentage rate is. First divide 52 into the amount of time in the loan (6/52 = .1154), then divide the interest charged ($25) by the quotient (.1154) to find what the annual interest charges would be on this loan ($25/.1154 = $216.64), finally divide the annual interest charges by the amount of the loan you actually got ($216.64 / $475 = 45.61%). This means your effective annual interest rate on the loan is 45.61% which makes these loans a very bad idea for the borrower.


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