Start Saving to Stop Spending Money on Alternative Financial Services (AFS) - Part 1
By Megan Brewster, Coordinator to the Associate Director, and Meredith Covington, Project Director, Center for Social Development, Washington University in St. Louis.
Recent evidence on the financial health of low- to moderate-income (LMI) households highlights the stark difference between those who use alternative financial services and those who don’t. In general, financial hardships are greater in households that use alternative financial services, with the interest and fees adding to the pressures of people who are already financially vulnerable.
Additional evidence comes from the Refund to Savings Initiative’s Household Financial Survey, one of the nation’s largest and most comprehensive surveys of LMI taxpayers in the United States, reaching over 20,000 households in 2013. The Refund to Savings Initiative is part of the Center for Social Development at Washington University in St. Louis.
The evidence shows that, compared to LMI peers who do not use alternative financial services, the LMI users of such services have
- around $850 less in annual income,
- over $1,800 more in unsecured debt, and
- only about one third of the savings of their peers ($819 vs. $2,488).
Further, the evidence shows that LMI users of alternative financial services reported more material hardship and financial difficulties:
- Nearly 80% skipped a bill payment, but only about 40% of nonusers skipped one.
- Nearly 75% faced food insecurity, but only 45% of nonusers did so.
- Over 50% had a bank overdraft, but only 25% of nonusers had one.
- Over 75% reported that they could not come up with $2,000 in an emergency, but about 45% of nonusers said this.
On every measure of financial health in the survey, LMI households that used alternative financial services reported significantly worse financial situations than those of their peers who did not use such services. The survey results also show that nearly 40% of LMI households used alternative financial services in the prior year, suggesting these concerns likely affect a significant portion of American households.
The data is clear: using alternative financial services imposes significant financial burdens on households that are already financially vulnerable.
So what can be done?
Saving—particularly at tax time (the majority of households receiving a refund)—can enable families to prepare for emergencies and to avoid spending precious dollars on interest and fees when needs arise.
Practitioners and policymakers can play a significant role in creating environments and programs that help households to save. Below we suggest strategies for supporting clients and constituents on prioritizing saving—one dollar at a time. Check back for tomorrow’s post on saving at the household level.
Strategies for Practitioners
- Coach your clients on saving their tax refund: For specific strategies, download the Volunteer Income Tax Preparer’s Toolkit, an illustrated guide that can help practitioners educate clients on the benefits of saving, particularly at tax time.
- Use tax time as the “golden moment” for new financial strategies: It’s common for people to reconsider their financial strategies at tax time, which is a “golden moment” to suggest saving. Use this season to work with clients on a savings plan.
- Offer incentives and prizes for saving: Several successful programs provide clients cash rewards for meeting savings goals, such as EARN in San Francisco and the Doorway to Dreams Fund’s SaveYourRefund campaign. Consider establishing similar programs or working with partners to provide incentives that help families save.
Strategies for Policymakers
- Support policies and programs that automate saving: Infrastructure for automatic saving isn’t accessible to many LMI households. For example, the employers of many low-wage workers do not offer direct deposit or contribute to 401(k)s. Policymakers should support and expand programs that address access barriers and make saving easier.
- Support and expand policies and programs that allow flexible saving: Many LMI families do not have [or use] a long-term savings account because they fear that funds in such accounts won’t be accessible if an emergency arises. One way to foster financial stability and increase saving is to ensure that these families have access to long-term accounts that allow tax-and penalty-free withdrawals. The Rainy Day EITC policy proposal is an example of policy to support flexible savings.
- Support policy that limits fees and interest charged for alternative financial services: After recognizing how alternative financial services negatively affect LMI households, many states enacted legislation to curb high usury rates. Such efforts don’t address the reasons why people turn to alternative financial services, but policymakers can help reduce predatory financial practices by supporting efforts to limit the cost of alternative financial services and the availability of such services.