Time to Stop Using Your Debit Card Part II

In August, I wrote about the prospect of banks charging fees on debit cards that are used in non-ATM transactions (see Time to Stop Using Debit Cards). With several banks testing $3 fees, I predicted there was no way it would end at that. Bank of America has now jumped on the bandwagon announcing a $5 monthly fee beginning next year for all bank customers that use their debit card for purchases. There will be no fee for ATM use. Of course, this is in addition to any other fees already charged on the bank account. The discussion now suggests that debit card use fees are the industry "norm." Wow! Even before the banks implement these new fees, the media is reporting them as the new standard.

Way back when banks first rolled out debit cards as a replacement for the traditional ATM card, I asked to send mine back. My worry, of course, was that there would surely be fees associated with the cards. And, would I know the fee was coming before the bank charged me. Well, it has taken some time for the fees to hit directly on user accounts (rather than indirectly through interchange fees), but welcome to the new world.

NPR ran a piece this week about the ability of small banks to lure new customers as these new fees hit. See Smaller Banks Use Free Checking. My suspicion is that many bank customers will not even notice the new fees . . . at first, but will be unhappy when they find out. Others who keep lower balances at some times during the month will not notice the fees until they've overdrawn their account. Then the bank may collect a $35 additional fee if the customer is enrolled in the bank's debit card overdraft protection program.

As for me, when these fees hit, I will not use my debit card for over the counter purchases. I can write a check at the grocery store or use a credit card for gas. After all, do you really think it will stop at $5 a month?

- JSM

Practical Payments Tidbits

I like to give my first year contracts students a bit of practical knowledge about commercial transactions and consumer issues whenever possible. So, I've taken to putting up articles on the overhead screen at the beginning of class. Sometimes we have a little discussion, other times right onto contracts doctrine. Today, we began class with this little MSN news piece on 5 places to never use your debit card!

• Rental or security deposits. This goes to the heart of what a debit card does, it takes money from your checking account. Using a credit card for car rental and similar transactions, these deposits are not charged so you are not out the money at the time.


• Restaurants and bars. Just to much risk of fraud with so many people around. And, your card is likely to leave your presence leading to a greater possibility of card skimming. Again, the money comes out of your checking account, so harder to get it back in the event of theft compared to handling potential losses on credit cards. Or use cash . . .


• Regular payments. What companies do you really want to have your financial information permanently on file with an ability to hit your checking account at will. Consumers have greater rights under the Truth in Lending Act if you use your credit card. Alternatively, pay them on an automated payment out of your checking account yourself. Of course, some businesses do demand the regular payment system and you might have to give in if it is the only way to secure a wanted service.


• Wi-Fi hot spots. Quite simply, unsecured access to your account numbers.


• Any retail outlet where you choose the "credit" option. This one doesn't bother me, but the article mentions the less rapid clearing and risk of overdrafts as reasons not to use the debit card.

For my part, it is always nice to see a little consumer education on a regular basis. The big reminder here is while debit cards look like credit cards, the attributes are not the same. Consumers are wise to keep this in mind.

- JSM

Time to Stop Using Debit Cards?

While my gripe about debit cards used to be the tricky overdrafts, apparently there is a new fee in town. . . . The debit card usage fee. Now that we've moved to a very cashless society, some banks are now looking to charge customers who want to use a debit card. Wells Fargo is now testing a $3 monthly debit card fee and JP Morgan has already tested the $3 fee! Ouch. Just $3 right? But overtime . . . And, we all know that $3 would just be the start. Surely, I am a cynic.

Banks argue that these new fees are in response to the Fed's cap on the fees they can charge retailers on card transactions. An Associated Press survey, though, says that 61% of consumers will find another way to pay if banks charge for using the debit card. Way to go consumers! I wonder, though, if this will turn out to be a tricky fee. For instance, do you get the monthly fee if you use your card in your own bank's ATM? In other ATMs?

At least at this point, Bank of America has not yet jumped on the debit card fee bandwagon.

New Rules of Bank Fees Now In Effect

Now that August has come around, there are new rules coming online to benefit consumers. One of my favorites is the overdraft protection rules for debit cards coming into effect on August 15, 2010 for existing bank customers (See FRB: New Overdraft Rules). In the past banks often charged a $34+ fee to consumers who use their card for debit purchases or ATM withdrawals when they do not have enough money in their account to cover the cost of the purchase or withdrawal. The new rules require banks to get consumer's consent (which they should not give) for these "programs."

While the big accomplishment here is disclosure with an opt-in system to benefit consumers using debit cards, as always, consumers can still make financial mistakes that result in fees (see, WSJ, Getting Going: Ferreting Out Those Hidden Fees). For instance, just because you don't opt-in to overdraft protection, that doesn't mean you cannot overdraw your account or be charged a fee for doing so. The new rules apply to debt and ATM transaction, so consumers can still overdraw their accounts and be charged fees for check and automatic bill payments. While this system may be much superior to the previous one, consumers must still mind their balances. The new rules don't eliminate overdrafts completely, leaving some protection for transactions that consumers typically want overdraft protection.

Is this enough? One worry is that banks may push consumers into opting in or consumers may simply not understand (see, USA Today, Bank Overdraft Fees). When opening an account at Chase Bank recently, I was asked to opt-in to overdraft on my debit card. While the clerk was not pushy, I was asked if I was "sure" and did I really understand. Oh, yes, I told them. While I did not opt-in, if a consumer does opt-in the rules may not go far enough. A consumer who opts-in won't get the warning at the counter that their account is low. They will just get the fee, even for the $4 cup of coffee, rather than the ability to choose another form of payment.

All and all, this is all good news for consumers, but banks will take a hit in revenue. Wells Fargo is expecting a $500 million loss in revenue for 2010 as a result of the overdraft rules (see, Wells Fargo Sees $500 Mln). Of course, banks will find other ways to make up the lost revenue. Hopefully, the banks will clearly disclose any new fees to consumers and keep fees manageable While simple fee disclosure for me is important, those with low incomes can be faced with the choice of paying fees or not having a checking account. Some have chosen not to have accounts at all. (see, USA Today, Many Shun Bank Accounts). Consumers opting out of banking completely because the fees are either undisclosed or too high is a lingering problem beyond the reach of the new rules.

- JSM

Hooray for Bank of America's New Overdraft Rules?

Is the end of the $39 cup of coffee in sight (See How Your $4 Cup of Coffee Can Cost You)? Today, Bank of America announced that it is doing away with debit card overdraft fees and will just decline consumer transactions that result in an overdraft on their debit card (See Bank of America to End Bank Overdraft Fees). Seems that is just what consumer groups have said for some time that banks should do, but that some banks claimed they couldn't technologically do. Bank of America is crediting itself with listening to consumer preferences on debit cards and their desire to help customers avoid unexpected fees. Bank of America has turned into the kinder, consumer friendly bank? Apparently, they are even notifying customers now when an ATM withdrawl will result in an overdraft (and a $35 fee), rather than just pushing the transaction through. But not to worry, Bank of America will continue to have overdraft coverage that most consumers want on their checks and routine account payments. Rather than trying to convince customers that they really want the $39 cup of coffee, Bank of America has apparently caved on this one. Good for them. Doing the right thing by customers (even if under pressure from the Federal Reserve) is a big step. Hopefully, this will set the tone for other large banks to follow suit. Apparently Citibank has stopped charging overdrafts on debit and ATM transactions.

For those banks not doing away with these fees, the Federal Reserve's new opt-in rules on debit cards are due to come into effect on July 1, 2010. The Federal Reserve’s Final Rules came down on the side of the consumer on many issues. Because the Truth-in-Lending Act applies to credit cards, but does not apply to debit cards, the Federal Reserve’s Final Rules are under the Electronic Funds Transfer Act (15 U.S.C. 1693 et seq.) (EFTA). The thrust of the Final Rules is primarily disclosure and consent based, rather than tackling some of the troublesome banking practices involved in the processing of overdrafts for enrolled customers and the amount banks charge for overdraft services. Specifically, the Final Rules ensure that:

(1) banks cannot enroll customers in overdraft services for ATM and one time debit card transactions without their consent (an opt-in);
(2) banks do not condition the payment of overdrafts on other items, such as checks and ACH transactions, on the customer opting-in for ATM and debit card services and cannot decline overdrafts on checks and ACH transactions for this reason;
(3) banks provide the same account terms, conditions and features to customers whether or not they opt-in; and
(4) the opt-in approach applies to existing and new accounts beginning July 1, 2010.

The Final Rules specifically declined proposals regarding the practice of debit card holds, suggesting instead that banks, networks, and merchants should address this problem.

With any luck, we'll see other large banks doing away with the debit and ATM overdrafts over the coming months. Seems easy enough just to deny the transaction at the counter. Not sure I'd say this, but good job Bank of America.

- JSM

What the Fed's New Overdraft Rules Don't Do

Now that classes are over, I've been wanting to turn back to the Federal Reserve's new rules bank overdraft programs (See Hooray for the New Overdraft Rules). Here's a portion of an essay that I've put together for the Lydian Payments Journal:

The largest problems facing regulation of consumer depository accounts are ones created by the need to keep regulations in pace with innovation. That is, bank innovation results in products on the marketplace that are either completely new or are comprised of such variation that the products might as well be new. Services associated with debit cards are a perfect example because debit cards were not commonplace until the late 1990s. Debit cards attach to regular bank depository accounts, yet are not checks, pure ATM cards, or even credit cards. Due to the changing nature of banking products, any regulation must be flexible, rather than static. With respect to debit cards, innovation has progressed unchecked in the wake of consumer excitement for the innovation itself, without creating a parallel regulatory framework. Accordingly, any discussion of the issues consumer depository accounts should take up an examination of the relationship between consumers and banks and explore possible improvements to existing regulatory structure so it may better adapt to innovations in banking products.

Full disclosure of the benefits and detriments of the overdraft programs prior an active enrollment decision is the best approach. If under the Final Rules a consumer enrolls in overdraft protection, resolution of assent and fairness hinges upon the disclosure of the terms of the overdraft service and the practices involved in securing assent. For instance, even though Regulation DD affirmatively requires disclosure of fees, a GAO study found that consumers have difficulty obtaining account terms and conditions and complete fee information even when requested. Moreover, even if the bank discloses the fees, the government does not regulate the reasonableness of fees or the manner in which they are imposed. The terms of overdraft fees are most likely ones of “adhesion,” in that they are offered or imposed without the ability to negotiate them, “take it or leave it” terms. If the GAO is correct, then Banks often fail to disclose the terms at all, even when asked. So, will the Final Rules result in substantial changes in banking practices?

Disclosure is at the cornerstone to most consumer regulations and is the primary prong of financial regulation. The Final Rules address disclosure issues primarily through the model opt-in form that accompanies the rules (the “form”). Importantly, the form: (i) requires that banks affirmatively give customers knowledge of enrollment in overdraft services; (ii) specifies the fee amounts that a bank charges per overdraft transaction, any daily fee charged for the account being overdrawn, and any daily limits on overdraft fees; and (iii) contains information about other, less costly banking services and where the consumer can obtain more information. These changes are significant because under current practice banks enroll many consumers without their knowledge or consent and without such disclosures. Up front disclosure is a key feature of the Final Rules, especially since consumers sometimes have difficulty obtaining fee terms at many banks despite Regulation DD requirements of fee disclosure. Of course, no form is perfect and there remains the potential for consumer confusion.

Curbing bank practices that disadvantage consumers by increasing the amount of overdraft fees incurred is the second prong in the solution to the problems with overdraft protection services banks currently offer. On this point, the Final Rules fall short. Although the Proposed Overdraft Rules addressed the issue of debit card holds by reducing many of the holds from days to just hours, the Final Rules contain no restrictions on holds, leaving wide discretion for the length and size of holds. It is doubtful that a consumer who goes out to gas up the car and buy groceries will know that in order to avoid an overdraft fee caused by a two hour gas pump hold on their card, he or she may want to buy groceries before gas when account balances are low. The Final Rules also do not take up other banking practices that increase the amount of overdraft fees, such as batch reordering of transactions from largest to smallest.

The final prong of any solution regarding overdraft fees must address the size and numerosity of fees imposed for consumers who opt-in the service. While banks typically impose credit card over the limit fees on a monthly basis, banks charge overdraft fees on a per transaction basis. Some consumers may continue to believe that credit and debit cards work the same in this respect. Consumers also tend to believe that government regulation is merit oriented, rather than disclosure based. While some in Congress have urged restrictions on overdraft fees to a “proportional” amount, the Final Rules do not take up fee size (see Dodd Says Senate May Expand Beyond Fed Overdrafts). To the extent that some banks charge overdraft fees on NSFs of less than $5, the size of the fee imposed is clearly material to consumers. Some banks have altered current practices to address this issue.

While the Final Rules represent an improvement over the status quo in terms of informing consumers about enrollment in overdraft services, they do not represent a complete solution to open issues of debit and ATM overdrafts. From the industry perspective, there are genuine operational issues at some banks that will require retooling of existing systems. Much of this must take place by July 1, 2010. Despite the successes in the Final Rules, consumers should not believe that they represent a panacea for overdrafts. If they do, disappointment will follow. This type of regulation is long overdue, probably owing to the more recent development of the product and regulatory system’s inability to respond effectively and promptly to developing issues in newer products. At its simplest, a solution to the problems of consumer choice and disclosure in debit card overdrafts favors a default rule system that gives the consumers an arrangement with the lowest cost. Despite the criticisms herein, the Final Rules go a long way toward that goal.

- JSM

Hooray for the New Overdraft Rules

Yes, its taken a long time. Yes, it has needed urging through proposed legislation in Congress. Yes, it has taken the coordinated efforts of several federal agencies. But, success at last. Yesterday, the Federal Reserve Bank announced final rules amending Regulation E of the Electronic Funds Transfer Act (see press release). As we've complained here before, these overdraft charges amount to about $1.7 billion each year in fees to banks (See FDIC Study, How Your $4 Cup of Coffee). There were a number of touchy issues with the banks pushing back firmly on how the rules would come out. Fortunately, the Federal Reserve seems to have come down firmly on the side of consumers on most of the issues primarily raised by debit card use.

So, here are the highlights:

1. Banks must comply with the Final Rules as of July 1, 2010


2. Banks cannot charge an overdraft fee on ATM and point-of-sale debit card (POS) transactions without the customer affirmatively opting-in to overdraft protection


3. The rules apply to existing and new accounts


4. Banks must offer the same account terms to customers who do not choose overdraft protection for ATM and POS transactions

Three issues remain unresolved by the Final Rules: (i) the size of overdraft fees (often $35 per transaction with no daily limit on the number of transactions charged; (ii) the batch reordering of transactions done by banks to increase the amount of fees generated on transactions by customers who do opt-in; and (iii) debit holds that trigger overdraft fees on transactions such as gasoline, hotels and restaurants. These gaps aside, the progress made by the Federal Reserve on debit cards is substantial.

Remember, banks can still charge the fees on those who have not opted-in until July 2010. So, still use your debit cards with care. As for me, I will not be opting-in, but will await the sales pitch that banks will inevitably make.

- JSM

Back to Work on Debit Card Rules

We've been discussing for some time on the issue of debit card overdrafts (See Big Banks Alter Debit Overcharge Rules , New York Times Takes on Overdraft and How Your $4 Cup of Coffee Can Cost $34 or More), with no success on the rulemaking front. The Federal Reserve has announced, though, that rules are close to completion and will be in the form of an opt-in option for consumers (See WSJ, Fed is Near New Fee Rules). Governor Tarullo of the Fed testified last week before the Senate Subcommittee on Financial Institutions, Committee on Banking, Housing, and Urban Affairs that the rules are near completion.

Although the Fed seems poised to finally move on debit cards, Congress appears to lack faith in the ability of the Fed to get this one done. While the Fed has lingered in its rulemaking, the Center for Responsible Lending reports that overdraft fees have increased 35% in the last two years alone. Senator Chris Dodd is leading the charge for Congressional intervention on debit cards. While rulemaking has been long coming, the pressure by Congress seems to also draw attention to the Fed's inability at times to protect consumer interests as part of its core mission. The situation of debit cards is but another example of why the Consumer Financial Protection Agency is a good idea (See Debate Heating Up). This may well be enough to spur the Fed to finishing up the debit card rules. Here's a piece on the proposed legislation.

-JSM

Are Card Companies Reverse Robin Hoods?

The New York Times is running a series on various forms of payment cards, and a re-occurring theme appears to be whether card companies effectively rob the poor to reward the rich. Are they Reverse Robin Hoods. Last Friday, Floyd Norris's High & Low Finance column claimed that low income consumers actually pay more than the affluent. He reached this conclusion by reasoning that merchants charge everyone the same price, but that those who carry reward credit and debit cards get a rebate from their card companies. The less affluent who pay in cash thus effectively pay more. I have argued elsewhere that Norris's analysis is too simple and may well be wrong. On today's front page, however, Times reporter Andrew Martin has a story entitled "Prepaid, but Not Prepared for Debit Car Fees" that shows that the situation for the poor may be even worse. This piece argues that pre-paid debit cards -- used by many low income people who lack bank accounts -- charge outrageous fees. These cards are a relatively new product not addressed in the recent credit card legislation or bills addressing traditional debit cards linked to checking accounts. One has to wonder why a pre-paid product should trigger high fees given that the issuer is bearing no credit risk or the administrative costs of billing the cardholder.

These articles, of course, raise more questions than they answer. Is it really true that merchants could lower their prices if they stopped accepting credit cards? If so, why don't we see more merchants doing it. Wouldn't the lower prices they could charge give them a competitive advantage? If not, what is it about the payment card market that seems immune to many forms of competition? For example, why would low income consumers waste money on a pre-paid debit card when they could open a bank account with lower fees? Banks seem to be responding to threatened debit card legislation, and American Express has taken a competitive stance on gift card fees, apparently spurred by recent credit card legislation. Shouldn't market pressures produce competition without actual or threatened legislation? In future posts, I'll try to explore some of these questions and consider ways in which the law might help advance consumer interests.

Big Banks Alter Debit Overcharge Rules

Presumably trying to get out in front of proposed legislation that would require banks to ask their customers if they want to "opt in" to debit card overdraft protection, JP Morgan Chase and Bank of American recently announced that they would be altering their overdraft policies. Both banks will stop charging overdraft fees for very small amounts (less than $5 for Chase and $10 for BofA) and will soon provide their customers with the option to opt out of overdraft protection so that a purchase would not be authorized if it would put the cardholder into an overdraft position. Both banks also plan to limit the number of overdraft charges that may be imposed in a single day, and Chase will also drop a controversial method of calculating overdrafts.

According to the N.Y. Times, both banks described their actions as responsive to their customers. “We made the decision that we had to help customers now and help those most stretched by the economy,” said Brian T. Moynihan, president of Bank of America’s consumer and small-business banking operations. “They found themselves getting hit by too many fees, and they said, ‘Help us out.’ ” There is little doubt, however, that threatened legislation has played a role. According to Michael Moebs, an economic advisor for many banks and credit unions, the banks understandably oppose this legislation because many of them collect more in overdraft fees than they earn in profits. Moebs argues that many banks would not be able to replace the revenue soon enough to stay in business.

So, have Chase and BofA, done enough to forestall legislation? While the changes they plan to implement are certainly a step in the right direction, they hardly eliminate many concerns.

For example, the exception for small overdrafts may only protect the cardholder if they deposit sufficient funds to cover the overdraft before making additional charges. But if the cardholder is not notified of the overdraft situation, how often will that happen?

The limits on the number of overdraft fees also hardly eliminate the seeming unconscionability of the arrangement. As an initial matter, they will apply only to purchase at stores, not ATM withdrawals. Second, the amount of fees will continue to bear no reasonable relationship to amount of the overdraft. Bank of America is limiting its cards to no more than four overdraft fees per day. But the fee remains $35 per overcharge, regardless of the amount. So, a customer that makes four purchases over the limit that total just $11 or $12 dollars would pay $140 in fees. The result at Chase is only marginally better. It will impose a limit of three fees per day, but they would total $89 on three overcharges that could amount to as little as $5.01. As Brad Tuttle wrote on the Time website, "[s]o the poor saps who are dumb enough to spend more than they have in their accounts—and who do so more than three or four times a day—are thrown a bone." I would add, a very small bone at that.

I have not seen any justification for these fee levels. Surely, a bank providing overdraft protection should be entitled to a reasonable return on the money it effectively lends to its customer as well as a reimbursement for the incremental administrative fees it incurs because a charge results in an overdraft. These fees appear to exceed the bounds of reason by several orders of magnitude. And surely, the banks would produce the data necessary to justify them if it existed.

Even the proposed new opt out provisions are less than they seem. They will require the customer to forgo overdraft protection for check writing as well as debit card use, a risky proposition given that many vendors charge their own penalty fees for bounced checks.

One doubts that these steps will satisfy the concerns of those in Congress who have proposed legislation to limit overdraft fees.

NY Times Takes on Debit Card Overdraft Fees

Was it a coincidence that the same day the first of the new credit card regulations went into effect, the N.Y. Times lead editorial called out the banks for charging high overdraft fees, one of the same issues addressed in the new credit card legislation? (For those unfamiliar with the Credit Card Act here's a guide.) Probably not. This issue has been banging around for more than two years. Several sources have published horror stories in recent weeks about banks permiting customers to compete transactions with debit cards and then imposing overdraft fees that are grossly disproportionate to the overage. It is bad enough to be charged a $25 fee for going over ones credit limit when making a $200 credit card purchase. But a $35 fee for a $2 cup of coffee bought with a debit card somehow seems even more offensive. The Times described a college student who bought $16.55 in school supplies and coffee through several separate debit card purchases and was charged over $200 in fees. Another report described a $35 overdraft fee when a store made an 8 cent adjustment to a prior charge after an account had been closed. The new credit card act requires that cardholders opt in to any system paying over the limit charges while imposing a fee and limits over-the-limit fees to one per billing cycle. Consumer groups have argued that the same opt-in procedures should be required for both credit and debit. The N.Y. Times argues that banks should be required to develop the technology to allow consumers to choose whether to overdraft their accounts on a purchase by purchase basis.