H&R Block calls on competitors to give up 'pay-stub' loans

KANSAS CITY, Mo. -- H&R Block Inc. is no stranger to making controversial offers to get tax clients through its doors.

The nation's largest tax preparer has spent tens of millions of dollars settling lawsuits claiming its refund-anticipation loans take advantage of low-income taxpayers by charging high fees.

But there are lines the Kansas City-based company says it will not cross.

On Wednesday, during the company's quarterly conference call with analysts, chief executive officer Mark Ernst called on his top two competitors -- Jackson Hewitt Tax Service Inc. and Liberty Tax Service -- to stop selling what he called "pay-stub" loans, unsecured cash payments made before a person has filed their taxes, saying they endangered the reputation of the entire industry.

"The economics of the product have more in common with payday lending than refund lending," Ernst said, referring to loans criticized for sometimes creating spiraling levels of interest. "While there's no question that there's a need for unsecured credit, the association of these high-cost pay-stub loans with tax preparation generally is not good for consumers and clearly takes the professional tax services industry into a direction that we should all wish to avoid."

It probably doesn't help that Ernst estimates the competitors' use of pay-stub loans, along with technical glitches, contributed to H&R Block losing around 250,000 clients in January.

Jackson Hewitt officials didn't return several phone calls for comment.

The company sells pay stub loans under the name "Money Now." During its November-January quarter, when most Money Now products would have been sold, Jackson Hewitt said it sold 1.3 million "financial products," compared with 999,000 during the same period a year ago. Revenues during that period increased 25 percent to $17.2 million.

John Hewitt, CEO of Virginia Beach, Va.-based Liberty, said he "detests" pay-stub loans but sold them on a trial basis in Texas and North Carolina this winter after seeing how many customers he was losing to Jackson Hewitt offices.

"It's an inferior product and costs more," Hewitt said, later adding, "I fully believe Jackson Hewitt saw an additional 250,000 to 300,000 returns."

He said if Jackson Hewitt continues to sell them next year, he won't encourage his franchisees to also offer them -- but won't stop them either.

The central difference between refund-anticipation loans, which all three companies offer, and pay-stub loans is timing.

In a refund-anticipation loan, a client files his taxes and borrows against the refund expected from the Internal Revenue Service in the near future. The borrower pays fees on the loan, which some critics say are often much higher than if the person had gone through other mainstream lending services.

Pay-stub loans, on the other hand, are sold before the client even has a W-2. Instead, the tax preparer uses the client's final pay stub of the year to estimate the refund and gives the client a loan based on that.

But figures in the W-2 could change and taxpayers owing child support or student loans might not get a refund at all, leaving some customers unable to pay back the pay-stub loans.

Frequently, recipients take out refund-anticipation loans to pay off pay-stub loans, meaning they pay additional fees.

"We don't like refund-anticipation loans because they're costly and risky," said Chi Chi Wu, staff attorney of National Consumer Law Center, a frequent critic of the tax preparation industry's practices. "And pay stub loans are costlier and riskier."

Wu said the IRS has been trying to speed up the processing of refunds, which would ultimately reduce the demand for early refund products.

"This seems to be Jackson Hewitt and Liberty's response to that move by the IRS," she said.

In his comments to analysts, Ernst hinted at moves of his own. While he offered no details, he said H&R Block would respond "aggressively" if pay-stub loans are still on the menu come tax time next year.

"I would tell you that we will not stand by and lose ground to competitors who choose to go down this path," he said. "We feel we have ways to respond that hold with our values."