Direct Deposit

A Dollars and Sense Rationale to Deliver Accounts at Tax Time

Melissa Koide — Mon, 28 Apr 2008 13:34:00 -0400

Each year the U.S. Treasury Department issues over one-hundred million refunds worth billions of dollars to individual tax filers.

Almost half of all refunds are issued via a paper check, with the majority of those checks being mailed to lower-income households. This presents a scaleable opportunity to provide these households with a low-cost transaction and savings account on the tax form.

IRS data show that of the 60 million federal tax refunds that were issued via a paper check in 2005, almost half were mailed to households earning $30,000 or less. These are the very households who typically lack access to reasonably-priced financial services and who are most likely to pay a disproportionate amount of their income to conduct routine financial transactions. They are also less likely to have adequate savings to cover emergency expenses like car repairs or unexpected medical bills, which often leads to payday lenders and other expensive sources of credit.

These households do, however, receive on average about $1,700 in federal tax refunds. And when examined in the aggregate, almost $50 billion is annually refunded to households with AGIs of $30,000 or less, via paper check.

The potential of those refunds as deposits creates a powerful case for financial institutions to make a low-cost transaction and savings product available to lower-income consumers.

And the millions of dollars in cost savings to the federal government in delivering these refunds electronically, combined with the policy objective of helping to "bank the underbanked," present a strong case for the federal government to provide tax filers with an option for such an account on the tax form.

Envisioned as a large-scale federal policy, the Assets and Transaction Account, or ATA, would be a prepaid account that would be delivered to tax filers who didn't direct deposit their refund into an existing account or elect to receive a paper check.

Financial institutions would issue the ATAs, which would be initially funded with tax refunds. Other deposits, including wages and salary and federal benefits, such as social security payments, could also be made into the accounts throughout the year. To facilitate savings, five percent of the tax filer's refund would be automatically deposited into a savings purse of the account. At a minimum, the ATA would be FDIC-insured, network-branded, and provide ATM access, POS capabilities, and web- and phone-based bill payment options, thus allowing the ATA-holder to use their account to conduct routine financial transactions and build some savings at a reasonable price.

By leveraging billions of dollars in annual tax refunds, there is enormous potential to deliver a financial product that benefits consumers, industry, and the government alike.

Direct Deposit: Fix it Carefully

Ellen Seidman — Tue, 22 Apr 2008 18:41:00 -0400

Direct deposit of wages and benefits is one of the great financial innovations of the last 30 years. It saves employers and benefits providers millions of dollars in both the purely administrative costs of writing checks and the hassle of replacing checks that are lost or stolen; it provides workers and benefits recipients with quick, safe and reliable access to their funds; it encourages those who are unbanked to move into the financial services mainstream; and, when the payors use their market power to cut good deals, it can mean higher quality financial services at lower prices for lower-income recipients.

In 1996, Congress told the Treasury Department to pay all recurring payments to individuals, such as Social Security and military and civilian retirement benefits, electronically. This mandate has been modified and scaled back, and the transition was not always successful. Nevertheless, Treasury's experience during Hurricane Katrina, when those with direct deposit got their funds, even if with a short delay until they could access their bank account, whereas those relying on checks often went months without funds, convinced the Department to make a new push to move everyone to electronic transfer, through direct deposit to either a bank account or to a well-designed, consumer friendly prepaid card.

But no good deed goes unpunished in the financial services world. High cost lenders noticed that the income stream of Social Security recipients could now be tapped into reliably, notwithstanding the federal prohibition against assignment of such benefits, by directing the recipient to direct deposit the check into an account the lender could tap first. When lenders engaged in similar behavior in South Africa, taking entire government paychecks to repay high-cost loans, the government responded with a major overhaul of the regulation of credit, complete with limits on interest and fees. Here, the Social Security Administration is attempting a more nuanced approach, asking for information about a specific type of arrangement, the master/sub account, which has facilitated high-cost lending and other abuses. As SSA noted in its request for comments, "by obtaining information about these arrangements . . . we can revise our payment procedures to help beneficiaries avoid some of the unfortunate outcomes that may result when they enter into agreements with some payday lenders."

So far, the payday lending industry is not commenting. It will be important that SSA, as well as Treasury and others interested in direct deposit, keep their eye firmly on the difference between direct deposit and the ability of some to abuse it. The abuses need to be stopped. A direct deposit system that cannot be hijacked is better for payors and recipients. But as SSA recognizes, the process of preventing abuse must also preserve the functionality of a very effective system.

Listening to the Unbanked

Alejandra Lopez-Fernandini — Tue, 22 Apr 2008 14:41:00 -0400

Between 10 and 20 million Americans are unbanked, meaning they lack a basic checking or savings account. An estimated 40 million others are underbanked--they have a bank account but may have difficulty retaining it, and are not fully integrated into the financial mainstream.

What deters low and moderate income individuals? Households living paycheck to paycheck often avoid traditional bank accounts for their minimum balance requirements, high overdraft penalties, monthly maintenance fees, and delayed deposit of checks. As a result, public-private efforts to pilot initiatives are addressing this disconnect between mainstream market offerings and low-income banking needs and yielding important insights into consumer demand. However, in an effort to tailor public and public-private initiatives targeted towards under-banked populations, it is important to listen to their preferences to structure valuable programs that they will use. In this regard, policy-makers can look to the private sector's experiences for guidance.

What do we know from research, well-crafted demonstration projects, and surveys of low income non-bank consumers? First, consumers prefer quick and convenient access to their funds; a product to conduct point-of-sale and ATM transactions; the opportunity to set aside funds in savings account; transparent fees and process; and government safeguards and protections.

From consumer research of the alternative financial services industry (specifically, check cashing establishments nationwide), we know that consumers seek these non-bank financial products and services because they provide transparent fees stated up-front, immediate liquidity, a sense of privacy, multi-lingual service representatives, and the ability to purchase multiple services-all in convenient locations and hours. Consumers are also drawn to non-bank providers because they convey high levels of trust, respect and security to the individual.

Low income consumer preferences have become well-incorporated into practices of very profitable alternative financial services industry; public efforts to bring more working individuals into the financial mainstream should follow suit, without adopting their predatory and usurious practices.

The New America Foundation's concept for an Assets and Transaction Account proposes to leverage the tax filing process to deliver a transaction and savings account to working, low-income individuals. By directly depositing a tax filers' refund into a basic, low-cost account held at regulated financial institution, the individual will gain access to the mainstream financial system and a host of product features informed by consumer preferences.

Public policies aimed at jumpstarting a relationship between a working individual and a regulated financial institution should take some cues from the private sector and incorporate knowledge of lower income consumer preferences in efforts to design and provide access to safe and fairly priced services. By listening to consumer preferences, policy-makers can deliver programs that are fair and affordable and meet the needs of those they are serving.