New Overdraft Regulations: Challenge or Opportunity

Robert Owen
June 14, 2010 | COMMENTS

Late last year the Federal Reserve announced new regulations requiring banks and credit unions to change the way they handle consumer overdrafts for Automated Teller Machine (ATM) and Point-of-Sale (POS) debit card transactions. For many financial institutions, overdraft fees represent the single largest source of consumer fee income. In fact, some industry estimates suggest these new overdraft changes could reduce fee income for financial institutions by over forty percent.

An initial reaction by financial institutions was to sound the death-knell for free checking, since overdraft fees are often used to offset the cost. What the regulations have really done is to push financial institutions to re-examine their checking account product lineup, from both the standpoints of challenge and opportunity, in an effort to address the changes.

One thing the new regulations allow is the opportunity for consumers to opt-in or give their bank permission to charge a standard overdraft fee each time they overdraw their checking account. Recent news reports suggest that many banks and credit unions are addressing the new regulations by simply making a decision about whether to proceed with the opt-in approach or not.

Several large banks are preparing plans to aggressively market the opt-in approach so they can retain as much overdraft fee income as possible. On the flip side, and perhaps with the biggest news story relating to the overdraft regulations, Bank of America has announced they will no longer allow clients to overdraw their accounts. Needless to say, this action is cheered by many consumer advocacy groups. Many credit unions and community banks have never allowed customers to overdraw accounts. So, for these institutions, regulatory change is a relatively simple thing to deal with as they aren't dependent on overdrafts for fee income or as part of their future strategy.

Of course, many bankers' have the perspective that allowing overdrafts provides convenience or a favor, particularly when the bank is making funds available in cases of emergency. They frequently cite that the value of overdraft protection is to give consumers access to funds, rather than embarrassing them by declining or rejecting transactions. However, overdrafts come at a steep price.

What really hasn't been discussed is what consumers think about overdrafts. Many consumers don't understand why they are able to withdrawal cash from an ATM or make a purchase using money that's not in their account to begin with. Some of their typical statements are, “It's electronic. Doesn't the bank know if I have enough money or not?” or “When I swipe my debit card, why is it possible to overdraw my account?” In these situations, consumers really don't make a conscious decision to borrow money and most would decide, if given a choice, that it certainly isn't worth the overdraft fee assessed.

Creating an Overdraft Strategy

There are two critical questions that financial institutions should ask when formulating an overdraft strategy: “What is in our customers' best interest?” and “What best meets our customers' needs?” There are certainly times when consumers make mistakes in their check registers or have an emergency and need access to cash quickly. So, perhaps there may be a better way to address the regulations than the options simply offering an opt-in program or just not offering overdrafts at all. What if there was potential to offer a product that appeals and provides value to customers, plus offers the ability to earn revenue?

Start by reexamining your checking product lineup. Perhaps one option is to offer a checking package that comes with the insurance or piece-of-mind that overdraft protection provides. Customers might be willing to pay a monthly fee for this type of account as well as a transaction fee for accessing overdraft protection. Even a $10.00 funds transfer fee that customers understand provides protection and convenience is more palatable and acceptable than the alternative of an overdraft fee. If properly sold, real customer benefit can be provided.

There may be other options too, but you need to start with the customer and look at the situation from their point of view. To evaluate your options, your institution should ask and answer these questions:

• How does your current checking product lineup and overdraft protection support the regulatory changes?
• What impact will the regulatory changes have on fee income?
• Is there a better service/fee exchange that will convey more client value?
• Which segments are impacted the most and how should an approach with each group of customers be differentiated?
• How can these regulatory changes be turned into a client acquisition strategy, rather than a fee income replacement effort?
• How can we prepare our people to leverage this sales opportunity and help clients while fueling sales performance?

In addition, a more disciplined and comprehensive analysis is necessary to help your organization maximize this opportunity, instead of managing it as just a regulatory change to implement. You need to create a thorough roadmap identifying your current state, what your options are and your implementation framework. The roadmap process is shown in the diagram below and can help you to make thoughtful and informed decisions that can form the basis for your organization's future growth.

Step 1: Current State Assessment . Develop a comprehensive review of your current overdraft practices. This includes a complete review of overdraft fee income, estimated revenue impact, current fee mix, overdraft protection services and policies, sales training and practices, and checking product implications. The result of this analysis will provide you with a thorough overview of your current situation and a baseline to determine potential product, fee and sales practice changes.

Step 2: Strategic Option Identification . Based upon the assessment results consider the strategic alternatives that can be used to identify fee revenue and potential client growth opportunities. This should include specific recommendations concerning fee income retention and growth, potential product design opportunities, segmentation opportunities and possible competitive marketing strategies to enhance client growth. Each of these perspectives will provide the necessary information to make the critical decisions you will need to address this opportunity.

Step 3: Planning and Implementation Support . Based upon the decisions that best suit your organization, build your implementation plans to insure that you minimize the impact and maximize the opportunity. This can include new product launches, marketing and sales planning, training and marketing communication planning and implementation. Finally, develop reporting mechanisms to enable you to track performance against established goals based upon the strategic decisions you make.

New overdraft regulations are surely not as simple as deciding to allow customers to opt-in or not. In many respects, the regulations present a great opportunity to align the needs of your customers with the goals of your company. You have a real opportunity to grow, especially if you develop a strategy roadmap and tackle the issue from your customers' point of view.

Robert Owen is a senior vice president for Align fsc. Reach him at 404-664-5089 or bob.owen@alignfsc.com.