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If I were a bank, here’s how I’d deal with overdraft fees

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Overdraft fees make me want to cover myself in bird seed and stand in front of a toucan cage while duct-taped to the ground. One overdraft fee at your neighborhood Wells Fargo zeroes out your interest for the entire year, and makes you hate your bank even more than you already do. Is that even possible?

Anyway, here’s an interesting article on overdrafts–and then my recommendation for what I would do if I ran a bank.

Beginning several years ago — no one really knows when — banks slowly got into the business of granting short-term, high interest loans to consumers when they attempt to overdraw their accounts. Account holders are automatically enrolled in the programs, which are now standard at nearly all banks.

Why are the programs, which many people have never heard of, so popular? Financial institutions that adopt them can expect a huge spike in overdraft revenue — a spike of 200 to 400 percent, according to the Center for Responsible Lending.

Financial institutions collected some $10 billion in 2005 through what’s sometimes called automatic overdraft protection…

These mini-loans are incredibly expensive. Most debit purchases that force overdraft loans to kick in are for small purchases, the agency says. The median overdraft loan for a point-of-sale transaction is $14.75. The average fee is more than double that amount. And since most consumers pay these loans back within three to five days, the annual percentage rate on a courtesy overdraft loan can be as high as 20,000 percent.

Here’s what I’d do if I ran a bank
First, let me acknowledge that it’s easy to armchair quarterback, as I know from people saying “you should have done it that way!!!!!” at PBwiki.

In any case, I think this recommendation would actually benefit banks more in the long term.

First, if one of my customers overdrafted, I would charge them the regular overdraft fee–but I would notify them that if they enrolled in a personal-finance class, the bank would waive the overdraft fee, and one more (make customers think positively about the future). The classes would be conveniently held at every branch on various weekends and evenings, and would explain basic concepts of personal finance. At the beginning of the class, I’d ask each customer to fill out a detailed survey of their financial needs. During the class, there wouldn’t be a transparent sales pitch, but the presenter could mention the services offered by the bank.

Then, two weeks after the class, I’d contact the class attendees and offer to help them achieve their goals based on the information they filled out on the survey. Maybe they need a money-market account? Or investment assistance? I’d monitor engagement and try to upsell them on something appropriate for their personal situation.

And that’s it–simple on the surface, but understandably very difficult to implement, test, and measure.

Banks: You’ll reduce the immediate, short-term fees you get from overdrafts–the ones that cause your customers to hate you–but you’ll make them happy by educating them and addressing their personal needs. And because you’re offering to waive their fees and educate them for free, you’re going to build an incredibly loyal base of people who will want to stay your customer. Yes, you’ll lose fees up front. But sophisticated customers buy more services from trusted sources, so if you make it up through other services and help your customers achieve their goals, that’s a win-win.

Related: Here’s how I negotiated out of bank fees

Banks or credit unions who want to know the true depth of my readers’ hatred for overdraft fees can contact me.

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47 Comments

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  1. I don’t know that I agree with this. At a bank, approximately 50% of all income is from fees. Voluntarily taking those away is not a good business practice for the bank.

    It sounds nice that you’d be able to cross-sell those customers with other products to enhance their relationship, but it’s better for the bank in terms of income to let those people stay in their free checking with an average balance of $.50 and one OD per month.

    Yours sounds nice in theory, but from my banking knowledge, it wouldn’t work.

  2. There’s only one problem…I’m not so sure the general population (and perhaps the subset that causes most overdraft fees) WANT to be educated.

    And a class taking people’s “precious” evening and weekend time? I think the fees might have to be raised even higher before people would think that was a good alternative.

    Just my take on things…

  3. Ramit — nice post, but I believe that banks make money off the naievity of their customers. The bank has little incentive to educate it’s consumers because most consumers think the bank is helping them out of a terrible mess by extending overdraft protection. Yes, we may hate our bank for doing that, but changing banks is a hassle, so consumers either stew in anger, or don’t give the charges a second thought. I just think that as horrible as it sounds, banks are not interested in educating consumers as much as they are interested in taking advantage of what the consumer doesn’t know or realize….

  4. I’m not saying all fees, just overdrafts. And I’m suggesting running a test, comparing this strategy to regular overdrafts over a period of 1-2 years in a limited area. Whichever strategy wins, wins.

  5. This would be a great service, but as many others have pointed out, not really something financial institutions are interested in. The problem is much bigger and deeper. Consumers are taught that these fees are an annoyance, rather than being taught how to avoid them. There are several things that we each can do to make sure the banks never get the opportunity to charge these fees. It starts with people getting a healthy view of money and personal finance.

    *Kent*

    Switching banks is really less of a hassle than the banks would like you to believe. In fact, many banks and credit unions have processes in place to help consumers switch banks easily.

  6. First, I got to say I like your idea. Heck if you had a bank, or even a credit union, with policies like that I would join.

    There are fundamental differences in philosophy though. In your method you are looking to raise up or improve your customers, and treating them investment. On the other hand, banks consider their customers to be resources, things to be consumed. This also gives an indication of their planning horizon. You’re thinking long term, while they are thinking the biggest/quickest bang.

  7. I can see this being done by a credit union before a bank. In my experience, credit unions are much more in tune with the education message.

  8. Hey I love overdraft charges!

    Nothing beats the time M&T decided to charge me *11* overdraft fees in one day. I was out of the country for the weekend and using my check card for all of my purchases. Unfortunately, some of my deposits hadn’t cleared in time so I overdrew my account. And since they process your charges from largest to smallest I got an overdraft fee on a bunch of little ($5-10) charges. I ended up incurring 11 overdraft charges each at something like $38. This was during my college days and I seeing that my account was close to $400 in the red, I decided to go talk to the branch manager to see if we could work something out. Despite my pleading that I could not afford to eat for 2 weeks due to the enormous fees they levied on me, she refused to remove any of them because “it wasn’t a banking error.”

    Now I understand that banks make most of their money off of fees, and that I’m the one who caused my own pain. However, I had some naive fantasy that the bank manager might take my humanity into account. After this incident, I’m very careful not to come even close to overdrawing my account.

    In my opinion, you have to be a heartless soul-sucking waste of life to work in the banking industry.

    If I could find a bank whose sole purpose wasn’t finding a way to screw me every chance they get, I would be a loyal customer for life.

    • Andy, I’m completely with you on this one.

      Somewhat off topic, but does anyone know of a bank that clears deposits in a reasonable amount of time?
      Every direct deposit I receive doesn’t show up until at least 2 business days after the company giving it posts it. Occasionally, it’s a lot longer. Sometimes, the result is overdraft fees for exactly the reasons Andy mentions above. Direct deposit is supposed to be instant… is it not? Am I missing something? I’ve asked the bank about it repeatedly and they claim to put all direct deposits through immediately after they receive the request, but mine are consistently late. My former employer would put my paycheck through the 28th, to be paid the 31st. My co-workers deposits cleared by the 31st at the latest, but mine were always a day later. This was a continuous paycheck at a regular interval from the same exact source each time. I still can’t wrap my brain around the ‘why?’ part of this.

      It’s kind of hard to budget (especially with automatic payments, which are required for things like car insurance) if you have no idea when your bank will loosen their grip on your paycheck…

      “If I could find a bank whose sole purpose wasn’t finding a way to screw me every chance they get, I would be a loyal customer for life.” <- QFT

  9. In the UK, the practice of charging high fees (not interest) for overdrafts is under scrutiny by the banking regulators. This has meant that its reasonably common that if you ask the bank they will refund it, no one is sure that the fees stand up in court.

  10. I think the problem with offering a class is that just milking money out of people means A) you get money and B) you don’t incur continuing expense.

    Offering classes means creating the entire infrastructure for the classes while also figuring out a way to milk money out of consumers.

    For example, look at a company that distributes software. They decide that they’re going to charge you 6 dollars to re-download something you purchased longer than 30 days ago. This doesn’t take much effort on their part, and potentially pays off big if they don’t just alienate all their customers.

    But if they sat down and provided this rich experience telling people how to download and save software, burn CDs, etc etc… they’d have to go to a lot of work to, in the end, keep screwing people out of their money.

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