By: Sheila Bair, Chairman of the FDIC
San Francisco Chronicle, May 6, 2010
Have you ever used a debit card to buy a quick $5 lunch, only to find out when you got your bank statement a month later that it actually cost a whopping $32? Perhaps when you bought lunch, you had forgotten about a $25 purchase you had made with your debit card over the weekend. The bottom line is that your lunch caused you to overdraw your account.
It was convenient to use your debit card to buy lunch that day, but was the cost worth the convenience?
It used to be that banks discouraged customers from overdrawing accounts by charging fees for doing so and by not covering the transaction until more money was deposited into the account.
In recent years, banks began offering automated overdraft programs to allow customers to make a purchase, write a check, or withdraw more cash from an ATM than what was in an account – for a fee.
A 2008 FDIC survey of automated overdraft programs found that overdraft fees of banks in the study ranged from $10 to $38 per transaction, with a median of $27. Customer account records provided by some participating banks showed that 41 percent of the overdrafts were debit-card transactions for a median amount of $20 - which is less than the median fee of $27 that is charged to cover the item.
Although having an occasional overdraft covered can be beneficial, many of the automated programs make it easy to incur several overdrafts—even in a single day --and quickly rack up fees that can come to hundreds of dollars. Customers with more than 10 overdraft transactions in a 12-month period accounted for 84 percent of the reported fees, our 2008 study found.
Unfortunately, those who pay the most may be those least able to afford the fees. Our study indicated that the costs of overdraft programs fall disproportionately on a small number of bank customers, who are all too often low- and moderate-income.
New rules from the Federal Reserve Board represent a step toward helping consumers avoid costly overdrafts when using debit cards. In addition, the FDIC is reminding banks of guidance issued in 2005 that calls on them to monitor excessive usage of overdraft payment programs by customers and to advise their customers of lower-cost alternatives when they see this pattern. The FDIC will be examining the banks we regulate closely for compliance in this area.
The FDIC recently sponsored a pilot project that found banks can offer reasonably priced alternatives to high-cost overdraft programs. Underwriting is streamlined to get cash to consumers who need it in 24 hours or less. Perhaps most importantly, loan terms are 90 days or more to give consumers time to pay the money back.
Banks in the pilot project tell us that small-dollar loans are an important component in cementing profitable relationships with consumers over the long term. Customers feel that they’ve received something of good value, instead of feeling ripped off. In this classic trade-off between short-term fee generation and long-term value generation, participating banks show that they can do better for consumers and themselves. And consumers on tight budgets can help themselves by not using overdraft protection repeatedly to cover cash shortfalls, but instead asking their banks for lower cost alternatives such as short-term loans or checking accounts linked to credit lines.