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Curinos Perspective: FIs Have Two Options Under CFPB’s Overdraft Proposal

The Consumer Financial Protection Board continues its crusade against overdraft, the rationale being that “very large banks” (those over $10 billion in assets) are abusing their customers. This view ignores the CFPB’s own data, which suggests that smaller institutions have a higher pro-rata rate of overdraft.  

Leveraging slight changes in Regulations E and Z, the CFPB is proposing, in essence, a safe harbor for institutions that charge a benchmark fee between $3 and $14 (based on losses) and $1 for cost-of-funds and customer-service expenses. They would also have the option of charging actual losses plus $1. Many large banks have already changed their overdraft policies due to competition from fintechs (see chart).

Overdraft Fees By Year, 2008-24​

Voluntary reforms at the nation’s largest FIs have kept overdraft fees at​ pandemic levels despite transaction volume returning to near-2019 levels​
Source: SNL Financial (2008 – 2023Q4), Curinos analysis, US Census Bureau, 2019 US Federal Reserve Payments Study, 2022 Diary of Consumer Payment Choice | Overdraft Fees 2015-2024Q2 sourced from call reports of commercial banks, savings banks, and savings & loans: Service Charges on US Deposit Accounts - Overdraft | **Overdraft Fees 2008-2014 estimated with SCDA data from SNL, Curinos Analysis | OD/Population normalized by transaction volume. *Methodology change for 2020 and 2021 to correct for stimulus-inflated Demand Deposit volume | 2023-2024 estimates based on announcements from 30 banks over $10B in assets. Overdraft Fees from CU’s and banks that did not report Overdraft Fees, along with banks reporting overdraft that were not analyzed for policy reforms are projected to remain constant, based on the trend of large banks that have not made reforms to their Overdraft policy. ​

Separately, the CFPB is eliminating non-sufficient funds (NSF) fees for declined transactions related to electronic transactions with immediate notice. Few large institutions have ever charged these fees, and many of those that did  already eliminated the fees in recent years. This in effect means the regulation is targeted at smaller organizations, many of whose profitability depends on consumer fees.  

Regardless of one’s view of overdraft fees, the CFPB’s position drives a customer-expectations wedge between banks and credit unions above $10 billion and those under that threshold. The agency cites the egregious behavior of larger banks, but it’s more likely to avoid requirements of the Regulatory Flexibility Act, which mandate a longer comment period on the impact of regulation on smaller institutions.  

The Choice for Retail Service Providers

Assuming the regulation is enacted, which in an election year is likely to be decided by courts rather than legislatures or agencies, consumer-focused financial services providers will face these strategic options as margins compress heading into a declining rate cycle: 

  1. Accept the fee cap and continue to charge courtesy overdraft fees up to $14 (the amount of which will be based on the final rule). 
  2. Expand or redefine lines of credit to cover transactions. 

Option 1: Accept the Fee Cap  

For many organizations between $10 billion and $50 billion in assets, the most pragmatic approach would be to accept a reasonable fee cap and continue courtesy overdraft practices.  

Depending on their risk-management regimen, banks and credit unions should be able to maintain small-dollar overdrafts for customers and members with established direct deposit and those with enough of a history of recurring-deposit behavior. For institutions to maintain break-even economics, customers and members with riskier deposit profiles might receive smaller limits or require more time after an overdraft trigger.  

As banks review courtesy overdraft profitability at a lower per-instance price point, some may ultimately reverse the consumer-friendly policies implemented in recent years (such as daily fee caps, de minimis limits, and grace periods) to ensure the program continues to break even. The CFPB’s analysis revealed that consistently high break-even rates with a $6 or $7 fee cap could be achieved by assessing fees on overdraft transactions that did not incur a fee at the time the CFPB’s research was conducted.  

The potential advantage of this approach (subject to careful analysis and stress-testing) for smaller banks and credit unions is that the systems and processes established for courtesy overdraft should remain relatively unchanged beyond price and limit caps. Larger institutions could maintain small-dollar courtesy overdraft to meet the needs of customers who wouldn’t qualify under traditional credit underwriting – this represents as much as  60% of the customer base covered by courtesy overdraft today.  

Option 2: Develop or Refine Existing Lines of Credit  

Institutions over $50 billion in assets are more likely to have the flexibility to develop or acquire solutions that offer traditional lines of credit.  

Without the negative-balance mechanism to reduce risk through process, far fewer of their customers are likely to qualify for these underwritten solutions. This could create a potential liquidity gap for customers, which would most likely be met with either regulated commercial solutions or non-traditional lending. An example of such market response is seen in North Carolina’s payday lending ban, which drove many consumers to South Carolina to meet their borrowing needs. 

Larger banks with investment dollars could develop more flexible prime solutions that address the timeliness and convenience of unsecured lending, potentially taking share back from online lending platforms. While margins would be razor thin, successful FIs could make up for any compression by further fostering consumer loyalty. 

Considerations for Shaping the Right Strategy

  1. What is the current the loss rate on overdraft as a percentage of courtesy overdraft extended? Could the benchmark fee support a sustainable program? Would fee policy changes be necessary to maintain a sustainable program under a benchmark fee?
  2. How much will it cost to build and operate a Reg Z solution? Programs from vendors with completely variable costs may not provide a sustainable return profile. Similarly, committing capital up front to a lower-margin opportunity may not make it through the investment committee criteria of many banks.
  3. Mass-market economics may make investments in customer acquisition prohibitive, especially considering the potential changes to interchange fees. With current acquisition costs of $600 to $900 per checking account, a significant change in economics for some segments may prompt some FIs to rethink their customer-targeting programs to maintain overall mass-market sustainability. 
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