To be sure, banks and credit unions are entitled to charge reasonable fees for bona fide services they offer. But when financial institutions charge overdraft fees on debit card transactions they could easily decline at no cost to their customer, manipulate transactions to make overdrafts more likely, and charge penalties that are grossly disproportionate to the shortfall–we can rightly call those practices predatory.
Overdraft abuses are most pernicious on debit card transactions, where the overdraft fee typically far exceeds the amount of the transaction that triggered it. Purchasing a pack of gum can result in a penalty that costs as much as a tank of gas. Importantly, if the consumer lacks sufficient funds for a debit card purchase, banks can simply decline the transaction at checkout, which costs the consumer nothing. This can be done and, in fact, is being done now. Bank of America, the largest debit card issuer in the country, eliminated overdraft charges on debit card purchases several years ago, and Citibank has never imposed these charges. These banks are to be commended.
But the majority of large financial institutions, and many smaller ones, actively encourage these costly debit card overdrafts. They aggressively market so-called overdraft “protection,” often targeting those customers who have most struggled with overdraft fees in the past. Banks impose hundreds of dollars of fees in a single day, and they often continue charging fees while the account holder is desperately trying to cover the initial fees and restore a positive balance in the account. Another common way banks maximize fees is to change the order of transactions as they come in, counting the largest transactions first. This manipulation depletes the account more quickly and causes more individual items to trigger overdraft fees.
These common practices impose a large and unnecessary burden on those who are already struggling to pay for necessities. Surveys have found that high overdraft fees disproportionately impact people of color and lower-income communities—those who already suffered a disproportionate impact from the financial crisis, and who are now having the hardest time recovering.
The Consumer Financial Protection Bureau recently released a study finding that, at several large banks, customers who were charged overdraft fees on debit cards were far more likely to have their accounts involuntarily closed.
Indeed, our communities know all too well that paying high fees isn’t where the overdraft problem ends. For too many families, overdraft fees represent the beginning of becoming unbanked. Previous research has found that overdraft fees are the main reason banking customers lose their accounts involuntarily.
Once a person is ejected from the mainstream financial system, it becomes difficult to reenter. And the unbanked and underbanked are more likely to end up with no choice except alternative financial services, which are often more expensive and less secure than a responsible mainstream checking account.
By increasing financial disenfranchisement, abusive overdraft practices exacerbate a problem that is already severe. A 2011 study from the Federal Deposit Insurance Corporation (FDIC) showed that about 8 percent of all households were unbanked, but the share was much higher for the African-American and Latino communities, at 21 percent and 20 percent, respectively. The share of the unbanked among all lower-income families stands at 28 percent.
Banks should not be purveyors of debt traps. With most banking services, consumers’ best interests and the banks’ are aligned—as when consumers make larger deposits and the bank has more funds to invest. But so long as overdraft fees lack appropriate oversight and basic rules of fairness, banks have strong incentive to maximize them, causing clear harm to their customers. Now that the CFPB has gathered evidence, it can act to implement overdraft policies that don’t allow unfair pilfering from those with the shallowest pockets. The bureau should start by addressing overdraft fees on debit cards, which financial institutions should not be charging, much less encouraging.
Henderson is president and CEO of The Leadership Conference on Civil and Human Rights. Shelton is the Washington bureau director for the NAACP.