CFPB Weighs In (Again) On Overdraft-Protection Policies

Issuer overdraft protections over the past few years have grown in notoriety, with many issuers early on adding the fee-based service to customer accounts without their knowledge or through communications that were unclear or hidden in lengthy documents. In 2010, the Federal Reserve banned depository institutions from charging an overdraft fee for ATM withdrawals or most debit card transactions unless the consumer has “opted in” to the protection service first.

But even the opt-in overdraft-protection services are causing unfair financial harm to consumers, according to a study report released last week by the

Consumer Financial Protection Bureau (CFPB). The report raises concerns about the impact of opting in to overdraft-protection services for debit card and ATM transactions.

“In the years since these changes, people have had varied views about whether consumers’ experiences with overdraft are improving,” CFPB Director Richard Cordray said in prepared remarks about the report. “But our study today shows that problems still persist.”

Through overdraft-protection policies, banks or credit unions will cover transactions when customers might otherwise overdraw their accounts when making purchases or ATM withdrawals, or when paying bills or through prearranged automated ACH debits. Financial institutions typically charge a high fee in addition to requiring repayment of the account deficit in the account.

Consumers incur most debit card overdraft fees on transactions of $24 or less, and they repay the majority of overdrafts within three days, according to the bureau’s report. Put in lending terms, the bureau says, if a consumer borrowed $24 for three days and paid the median overdraft fee of $34, such a loan would carry a 17,000 percent annual percentage rate.

A relatively small number of consumers are paying large amounts for overdrafts, often for advances of small amounts of money for short periods of time, according to the report. For some banks, overdraft and insufficient funds fees represent more than half of the fee income on consumer checking accounts. The study found that about 8 percent of accounts incur the vast majority of overdraft fees.

The Wall Street Journal last week also noted how banks have made it increasingly possible for customers to overdraw their accounts by processing the higher-amount transactions first before the smaller ones. Some 16% of U.S. financial institutions process checking-account transactions on a “high to low” basis, according to a survey of more than 2,000 institutions Moebs Services Inc. conducted for the Journal.

CBA’s reactions

In his own statement on the CFPB’s report, Consumer Bankers Association President and CEO Richard Hunt indicated the free market should dictate how banks price and offer products to their customers. The association, he said, contends overdraft protection is a vital banking service consumers choose voluntarily to ensure their financial needs are met, and they often use them to properly manage their deposit accounts.

“Studies have shown consumers value and appreciate the ability to cover expenses when they need to, from an institution they trust, without resorting to entities outside the heavily regulated banking system, Hunt said. “These debit card services are completely optional, and consumers who freely choose to utilize the service can subsequently opt out at any time.”

Hunt urged policymakers to be cautious in their approach to regulating overdraft-protection services and to avoid “completely eliminating the consumer’s ability to choose.”

The CFPB’s views

The CFPB sees the issue differently, suggesting in its report that consumers who opt in to overdraft coverage put themselves at serious risk when they use their debit card.

“Despite recent regulatory and industry changes, overdrafts continue to impose heavy costs on consumers who have low account balances and no cushion for error,” Cordray said. “ Overdraft fees should not be ‘gotchas’ when people use their debit cards.”

Some banks, such as RBS Citizens Financial Group, have altered their policies over the years, such as not charging an overdraft fee when customers overdraw their account by a small amount, such as $5. Some institutions also cap the number of overdraft and NSF fees they will charge on an account on a single day.

Who’s most vulnerable?

However, consumers who wind up paying the fees tend to use their debit cards more often than do most banking customers, making them particularly vulnerable, the CFPB’s report noted. Whereas consumers on average use their debit cards 17 times per month, those who are opt in for overdraft services use their debit cards 24 times per month on average.

Moreover, 18 percent of opted-in accounts overdraw more than 10 times per year, compared with 6 percent that do for non-opted-in accounts, according to the report. Also, opted-in accounts are nearly twice as likely to have at least one overdraft transaction per year.

Consumers who opt in for overdraft-protection services pay about seven times more in overdraft and insufficient-funds fees. On average, opted-in accounts pay almost $260 per year in overdraft and NSF fees compared to just over $35 for non-opted-in accounts, the report notes.

What’s next?

For its research, the bureau examined account-level and transaction-level data to better understand how overdraft practices affect consumers. The study reflects a significant portion of U.S. consumer checking accounts.

A CFPB report last year raised concerns about whether overdraft costs can be anticipated and avoided by consumers. In 2012, the bureau began examining nine banks’ overdraft-protection policies, and the bureau plans further studies on how such policies work and how they are affecting consumers. It is also weighing what consumer protections are necessary for overdraft and related services.