Banks rapped on cost of bounce protection
Banks used to frown on customers who overdrew their accounts, but not any more.
Bank of America and Citizens Bank are offering a loosely regulated service called bounce protection, which automatically allows customers to overdraw their accounts by several hundred dollars at an automated teller machine or while using a debit card at a restaurant or store. Customers are charged fees ranging from $17 to $33 each time they overdraw their accounts unless they opt out of the service.
That means if a customer who has $200 in his checking account and withdraws $300 from an ATM machine or spends $300 at a supermarket can be charged a $25 fee for that $100, which translates into an annual interest rate of nearly 1300 percent. Consumers are typically not alerted that they are overdrawing their accounts at the time of the transaction.
Bounce protection, which has been spreading across the country, is far more expensive than traditional overdraft protection. Overdraft protection typically relies on a standard line of credit or a transfer from a savings or money market account to pay the overdraft. The banks say bounce protection is attractive to customers who want to complete a transaction and avoid the embarrassment of a rejection, but critics say financial institutions are effectively turning a debit card into a credit card and an ATM withdrawal into a short-term loan with high interest rates.
Bank of America, the dominant bank in New England, unveiled its bounce protection service last month. It covers purchases using ATM or debit cards. Overdraft limits, typically several hundred dollars, are customized for each customer and customers typically pay back the money in a matter of days to avoid additional overdrafts. The fee is $25 per overdraft.
"This makes it possible to get the necessary services you need without encountering the embarrassment of being turned down," said Alexandra Liftman, a spokeswoman for the bank.
Liftman said the bank estimates that 75 percent of the time customers will pay no fee because deposits will clear in time to avoid an overdraft. "We really don't want consumers to overdraw their accounts," she said.
Yet the one-paragraph description of the new service contained in bill inserts implied otherwise.
"In our ongoing efforts to make banking with us easier, our goal is to authorize more transactions made using your ATM or check card even if it creates an overdraft on your account," the insert said.
The insert said fees may apply and referred customers to a fee schedule mailed to customers once a year. The notice did not disclose that consumers could opt out of the program if they wanted. Liftman said customers could learn about the opt-out provision if they called or visited a branch to discuss the service.
Colman Herman, a Bank of America customer from Dorchester, said he was stunned by the bill insert's cheery tone. "They write it in terms of, 'We're doing you a favor,' " he said. "But they're really designing a system where they want you to overdraft."
Consumer advocates say many customers choose debit cards instead of credit cards precisely because they don't want to spend more than they have in their account.
"In a sense, the banks are encouraging bad banking behavior," said Deirdre Cummings, consumer education director at the Massachusetts Public Interest Research Group.
The growing use of bounce protection has attracted the attention of federal regulators. Late last week the Federal Reserve, the Federal Deposit Insurance Corp., the National Credit Union Administration, and the Office of the Comptroller of the Currency issued suggested guidelines for banks to follow in offering bounce protection.
Regulators referred to bounce protection fees as a form of credit but did not find that they are subject to interest rate disclosures required under the federal Truth-in-Lending-Act. Since bounce protection is not technically a regulated credit agreement, state usury laws also do not apply.
Citizens Bank began offering bounce protection on ATM withdrawals and debit card purchases in June 2003. Customers in good standing are allowed to overdraw their accounts by as much as $300 and are charged fees ranging from $17 to $33 per transaction depending on the number of occurrences. Customers with more overdrafts pay higher fees.
Citizens spokeswoman Melodie Jackson said there is no prompt at an ATM machine warning customers they are about to trigger bounce protection fees. She said the service could be considered a "temporary loan."
But that temporary loan can be very expensive. A $17 fee on a $100 overdraft translates into an annual percentage rate of nearly 900 percent, more than what some payday loan websites charge for a loan of similar size. The Romney administration earlier this month ordered 91 payday loan websites to stop marketing their products in Massachusetts, calling them a "bad deal" for consumers. Payday loans are a form of short-term, high-interest loans.
Ellen Molle, a spokeswoman for Sovereign Bank, said her institution thinks bounce protection is a bad idea. "We don't encourage overdrafts," she said. "We think it's better that people know what their balance is so they don't overdraw their account."
With standard overdraft protection, a customer pays interest on a line of credit or a small fee for having money transferred from another account to cover the overdraft. Interest charges and the terms of the credit are clearly spelled out. Customers typically have to ask for the service.
Bounce protection is different in that customers are automatically enrolled unless they opt out. Banks say they covered many paper check overdrafts in the past and charged customers a nonsufficient funds fee. The only difference now, they say, is that debit card and ATM transactions are being included and customers are being told upfront about the service.
Bernstein Investment Research & Management, which tracks the banking industry, estimates bounce protection services generate $8 billion to $9 billion in annual revenues, about two-thirds of all nonsufficient funds fees.
The emergence of bounce protection is coming at a time when consumers are more likely than ever to overdraw their accounts. A new federal law that took effect last year dramatically reduced the amount of time for a check to clear, but the clearance time for deposits hasn't fallen commensurately.
Bruce Mohl can be reached at mohl@globe.com. 