Banks Seek to Derail Bills to Curb Overdraft Fees

Moves last month by several large financial institutions to ease overdraft fees hasn’t stopped the banking industry from trying to kill legislation that would regulate such services.

American Bankers Association senior counsel Nessa Feddis went before the House Financial Services Committee this morning to say why the bill, H.R. 3904, would not only weaken banks, but also hurt consumers. Among other things, the measure would require that overdraft fees relate to the real costs financial instituitons incur in processing the charges. It would also force banking companies to disclose the effective interest rates associated with overdraft fees.

So it was interesting to read in Feddis’s prepared testimony how misguided it is to try to limit the rates, which result in APRs sometimes topping 3,000 percent (click on chart below to expand). Apparently the problem isn’t the size of the charges, which can reach $74 for a single overdraft, but how they are calculated. The other problem, Feddis said, is that bank customers are stupid:

However, consumers do not understand effective APRs, raising questions over whether this cumbersome process for calculating interest rates in the bill makes any sense. Given the nature of overdraft fees, the APR will be greatly inflated to the point of distortion… it is not at all clear how this would be meaningful to or assist consumers

Yes, it is cumbersome to discover that you’re paying a triple-digit interest rate on a $100 overdraft, isn’t it? And it does seem like such rates are, in fact, “greatly inflated to the point of distortion.”

Feddis also tell us that “overdraft fees are set to create incentives for good management of accounts and discourage overdrawing of the account.” No. If they were intended as a wealth management tool, banks wouldn’t routinely try to maximize overdraft fees by processing customers’ biggest payments first, faster emptying the account, before handling smaller charges.

Financial institutions offer overdraft programs for two reasons: because consumers like them (I know I do) and to make a buck. Not that there’s nothing wrong with that. Covering a bounced check is a valuable service, and companies deserve to be paid for it. Within reason. Yet overdraft fees have nearly doubled since 2000, and as of August U.S. banks were on pace to collect a record $38.5 billion in these charges. Either there are lots more deadbeats running around, or banks are jacking up fees.

Efforts by the ABA and other financial industry lobbyists to derail a new overdraft law will almost certainly fail. Sen. Chris Dodd, D-Conn., has introduced a similar measure to H.R. 3904 in the Senate that has broad support. The Federal Reserve is also expected by year-end to issue a rule on overdraft fees, known as Regulation E, that would curb charges on one-time debit card overdrafts, among other restrictions.

There’s little doubt that such changes will affect bank earnings. Industry players have become increasingly reliant on fees and other non-interest income in recent years, especially as loans fall apart. As a result of Bank of America (BAC) modifying its overdraft program, “future fee revenue streams will be negatively impacted beginning in the fourth quarter,” said CFO Joe Price said in the company’s Oct. 16 conference call.

Smaller banks, in particular, will have to get creative to cope with the new rules of the road. For instance, I wouldn’t be surprised to see some institutions begin charging monthly maintenance fees on some checking accounts. Whether such changes ultimately help restore the balance between bank profits and customer satisfaction remains to be seen.

Chart courtesy of the Consumer Federation of America