The ongoing overdraft debate in the financial industry has long focused on fees. Many financial institutions are putting “fee-free” programs in motion, but the simple fact is that reducing or eliminating fees isn’t enough to change the overdraft game. More needs to be done to help consumers, particularly now, as they struggle due to current economic conditions.
Financial institutions have not focused on transparency related to NSF and overdrafts, and this is hurting consumers. The industry has made some progress on reducing fees in a short period of time, but they’ve left customers without a path to resolve Non-Sufficient Funds (NSF) and overdraft transactions before they end up with negative consequences. The only thing that has been addressed is how and when they charge fees.
The service fees that financial institutions receive from these practices have more than doubled over the past three decades. The U.S. Consumer Financial Protection Bureau said that NSF and overdraft fees impose onerous costs on consumers, particularly those who are least able to absorb them. Overdraft fees bring in $33.4 billion with a median overdraft charge of $30 for community banks, credit unions, and fintechs, according to a Moebs Services Overdraft Study. Only 18% of account holders pay 91% of overdraft and NSF fees, disproportionately bearing the burden. According to a Pew Charitable Trust research study, 25% of these consumers, it represents a week’s worth of wages in overdraft fees annually,
Why more is needed to help consumers with their payments
Here’s how it works at the moment for many financial institutions: If a customer tries to pay their car payment from their checking account but doesn’t have the money to cover it and doesn’t have overdraft protection, the transaction will be returned, and they will be faced with potential late fees and damage to their credit. Eventually, they could be prevented from opening a bank account, which severely limits their financial future. Whether or not they were charged an NSF fee doesn’t change the outcome because the customer was never given a chance to resolve the issue before they incurred the negative consequences. In the current economic environment, with inflation on the rise and the threat of a recession looming, many consumers will turn to short-term liquidity solutions to help them get through the rough patches. However, data suggests that these options may be far more limited moving forward because of the changes being made at some financial institutions.
A recent analysis of three of the top ten most prominent financial institutions in the US indicates a significant reduction of purchasing power has occurred due to changes made to their overdraft policies. Based on data from the 2021 FFIEC Call Reports, including data on overdraft fees paid, it’s estimated that just within these three banks, they have eliminated $5B dollars of purchasing power or consumer liquidity (source: Velocity Solutions, 2022).
Ultimately, the biggest risk is that, over time, this could lead to more people becoming underbanked or unbankable, not to mention the potential impact to financial inclusion efforts.
To avoid this, Financial Institutions must offer consumers better solutions when they are faced with insufficient funds. They should alert them when there’s a problem before they suffer negative consequences, instead of penalizing them. They should offer them alternate ways to cover their balance or, at a minimum, let them prioritize which transactions should be paid and which should be returned, so their most critical transactions are protected, such as rent and utilities.
Changes to overdraft programs
Some institutions are eliminating their overdraft programs completely, but that doesn’t solve the problem. Overdraft has a purpose and shouldn’t be fully eliminated. Without overdraft protection in place, each shortage would lead to an NSF, which means overdrawn transactions wouldn’t get paid. Remember how, years ago, people tracked every payment in a check register? Today, that’s not the case. Payments today include frequent use of debit cards, automatic payments (ACH), multiple subscriptions, recurring payments, and digital wallets. This means that virtually no one keeps track of their detailed expenses anymore, so overdrawn accounts have become more common.
Even without overdraft and the related fees, there will still be costs for customers. The only difference is that they may not all originate from a consumer’s financial institution—they’ll come from the potential late fees of whomever they intended to pay. Overdraft programs save consumers from such frustrations and can help keep their financial reputation intact.
While it’s good to update overdraft programs, they need to help, not hurt, customers. The current changes to overdraft programs today are creating pain points for consumers:
- Elimination of overdrafts, resulting in more payments being returned, which can lead to repercussions for the customer such as late payment fees, merchant fees, and potential negative impacts to their credit.
- New parameters in place for people to qualify for overdrafts, such as specific types of fee-based checking accounts or a required minimum balance, which can lead to more returned payments if someone doesn’t qualify.
- Reduced fees, but also a reduction in the amount of overdraft allowance covered by the financial institution, which leads to Non-Sufficient Funds (NSFs).
In this difficult economic time, consumers need more support from their financial institutions. Giving them more time, and a second chance to make payments can help them through a financial crunch. Some overdraft updates that financial institutions should consider are: developing customized overdraft limits for each customer, such as assigning overdraft limits based on the consumer’s ability to repay it, and offering small-dollar, short-term loans, similar to CashPlease by Velocity or Qcash’s microloans.
There are many ways to help consumers over the hurdle of difficult economic times. Finding ways to help them bear the burden will not only benefit your organization, but it will also help gain the trust and loyalty of your customers.