Very interesting article in the Journal today about the Fed’s ongoing public comment period on bank overdraft fee practices. This issue has been in the news now for a while: most banks now offer you the standard “courtesy” of covering overdrafts on your account when in reality what has happened is that they’ve discovered that monkeying with their accounting systems to manipulate the official “balance” in a customer’s account can give them an excuse to charge huge fees and can be a major cash cow. 

Last year, Jennimaria Palomaki, a scholarship student at the University of Georgia who works part-time to support herself, unwittingly racked up nearly $200 in overdraft fees on a series of small purchases she made without realizing her balance was negative. “I live paycheck to paycheck and I always check my balance online,” she said, “but sometimes you don’t realize a charge has gone through and every one of these little purchases is overdrawing your account.” Paying off those charges meant she couldn’t afford to buy her boyfriend a gift for Valentine’s Day.

“I understand the banks have to protect their own interest. I get that,” she said. “But it feels like I’m being stolen from when I get this huge fee for a small purchase.”

People like Mr. Shriver and Ms. Palomaki say this isn’t fair. They want the option either to opt out of the service altogether or to be told when they’re about to make a purchase that will overdraw their accounts and incur a fee. “There’s no alert system,” Ms. Palomaki said. “That’s the biggest problem.” She and others also object that when several purchases happen simultaneously, banks process the largest ones first, so that each subsequent smaller charge incurs a fee.

I’ve encountered these fees before and I agree that the lack of notification (it can be one hell of a nasty surprise when you get around to looking at your balance online a few days later) and the games the banks play to self-perpetuate these fees once they start are both big problems with this “courtesy.”

A quick Google search for “bank overdraft fees” gives a long year-old Wesabe thread on the subject, with some very interesting responses:

I have been sidetracked by a family funeral over the last few days, and finally logged into my Wachovia account this morning to take a peek before depositing my monthly funds. I found that I was showing a negative $235 balance. Part of that balance is comprised of $245 of overdraft charges (yes, I said $245). It does not take a rocket scientist question why the overdraft fees are larger than the negative balance, since logic suggests there would otherwise be a positive balance. It turns out the first tool they use to increase overdraft fees involves transaction timing.

Transaction Timing. Apparently, when I use my Wachovia check card as a credit card (not as a debit card putting in a pin), although the transaction takes several days to post to my account and although Wachovia also does not pay any funds to the merchant for several days, they use that transaction immediately to calculate for overdraft. Translation, they give you no float even though they pay nothing out for a while. So, several small transactions that are still pending (literally $5 to $20 each) is what they claim are creating the $245 of overdraft fees they are charging over the last two days. It doesn’t matter that I was going to the bank today to deposit $8k in cash and that those funds would be there and available before the pending transactions clear. I don’t know if that is the industry norm or not, but I don’t like the method. It creates a situation where the bank charges an overdraft fee when, by normal industry practice, they have not paid the funds to the merchant and wouldn’t have even if it was in the account. So, from a purely cash flow point of view, they are charging $245 when there was never an actual overdraft. It gets worse from there though.

Transaction Order. After working through that, I then discovered their second tool to create or increase overdraft fees, transaction arrangement. As mentioned in the USA Today article, they arrange the transactions to process the largest ones first and create a negative balance quickest. That usually leaves several smaller transactions and leades to more fees. I spoke with banker friend today who also told me that the company pitch was to do it for the benefit of the customer so that they don’t bounce their mortgage. Personally, I think this is bogus, and my friend admitted the same. A clever MBA pointed out precisely what happened with me. If you account for the transactions from highest to lowest, you significantly increase the odds of creating more overdrafts. In my case, if we start with the premise that the Transaction Timing method above is the right way to calculate the balance, after adding in all current and pending transactions in the order they hit the account, there would have been four overdrafts, totaling $140. I am not even arguing that they should order it smallest to largest, which would favor the account holder from a fees perspective, in my case yielding only two fees. However, my personal point of view is that there was never an overdraft, so that is $140 too much. But, it gets even sleazier from there.

Timing of Fees. The third way that Wachovia is shafting its customers is by manipulating the overdraft fee application to the account balance. In my case, they applied the overdraft fee in such a way that it created three more overdrafts. For a simple example, assume I have $100 in my account and I have $130 in pending transactions, comprised of one transaction for $100 and three $10 transactions. Assume the three $10 transactions came first. We’ve already seen that the bank can create three overdrafts instead of one, by paying the $100 transaction first and then charging an overdraft fee for each of the three $10 transactions. With Wachovia, this would be $105 of fees on $30 of overdraft – that ratio enough is sickening. Here is where it gets really unscrupulous. The straightforward way to charge the customer for this would be to pay the $100 transaction out of available funds which is what decreases the balance making nothing available for the three $10 transactions. Then the bank can flag the next three charges as overdrafts, cover them and charge its overdraft fee, leaving the customer with a balance of negative $135 ($105 in fees + $30 in transactions).

This is not what Wachovia does though. Instead, once it identifies the $105 in overdraft fees (which would not occur until AFTER the original $100 transaction is paid out), it backs that out of the available balance and pays it to itself BEFORE paying the original $100 transaction that precipitated the overdraft. By doing this, there are then also no funds available to pay the $100 transaction, and it nets them another $35 overdraft fee and leaves the customer with a negative balance of $170. I am told by my banker friend that the bank says it pays itself first because that protects the bank against the customer who says “Forget this, I’m going across the street to the other bank and opening accounts there instead of paying fees.” However, she also tells me that in reality, the banks report people who do not cover their negative balances to an interbank reporting agency, that each bank checks it before opening the new accounts, and that they wouldn’t open the new accounts for the customer until the prior bank is paid off or removes the report. If that is the case, this argument doesn’t hold water. In my circumstance, because they were all small transaction values, Wachovia was able to use this method to generate three more overdraft fees. I am absolutely appalled at this business practice.

All told, Wachovia was able to use these three methods (a) to create an “overdraft” where one didn’t exist from a cash flow perspective by playing with timing; (b) manipulating the order of posting transactions to make those fees apply to four transactions instead of the two that may have been otherwise been overdrafts, assuming Wachovia’s initial calculating based on transaction timing is proper; and (c) turning those four overdraft charges into seven by paying themselves overdraft fees before covering any other transaction, including those that come before there is any overdraft. As the net effect, there should have been zero fees for overdrafts, but Wachovia ratcheted it up to 7 overdrafts for $245 in fees. I am absolutely appalled, and it has nothing to do with indignation over payment, since I ended up resolving the overdraft protection issue at the branch level and getting the fees removed.

And this too (from someone who needs to learn about line breaks):

All in all, you, the customer, are only worth to a bank what you put in your account. But, it doesn’t stop there. Not only are you worth only what you have deposited into your account, but you are worth even less to them if you do not leave the money in the account long enough. In other words, if you keep a relatively low balance and you milk out all of your money as soon as you put it in, then the way the figure it, they never get to keep you money long enough. Banks figured out a long time ago that a $35.00 return on a $2.00 cup of coffee was greater and faster than an annual percentage rate for some house that it might take the average Joe six pack 30 years to pay off. If you are a bank, the real money is in fees, mostly overdraft fees. Thus, banks began to realize that the modern consumer lifestyle keeps us busy and on the road making numerous small purchases. In order to meet the demands of the modern life-style they offered us the “Visa check Card”. Its fast, its safe, its simple, and oh yea, its really expensive if you are not careful. As gas prices and food surge, more and more people will have less and less to keep in their accounts, and guess who wins when that happens? In reality, a bank will win if you maintain a high-balance because they will have more of your money to invest. Likewise, they will win by hitting you with negative charges when your account goes low, or if you simply maintain a low balance. Either way they will not lose. You see, really overdraft fees and other bogus fees in general are just what a bank charges you for the privilege of allowing you to use their services. In fact, overdraft fees ensure to a bank that they will at least get some money back out of you. Unlike the days when our grandparents put money in the bank, and money deposited was enough in itself to constitute a relationship between you and the bank, today’s financial institutions have cashed in on our spending habits and they are making billions. Most people don’t realize it, but the whole objective of banking is to make you negative. If you don’t believe me, then why do banks run software that greatly increases chances of an overdraft? Why do banks “stack” your purchases from high to low? Why don’t banks just simply cut you off once you have spent more than you have in your account? Why don’t they charge you a simple percentage instead of a whopping $35.00 per transaction? Why do they hold some charges, post others, and all the while they show an available balance that’s not really available at all. This is all designed to extort more and more money from each and every customer. By the way, I am sure that millions of people never go negative, but guess what, millions of others do, and despite what Wachovia, and other banks tell those customers, they ( the customers) are not irresponsible people who failed to monitor their activities. In fact, most people with a bank account watch it very closely, they just fail to realize that the statistics and the system are stacked against them. With each purchase you are gambling with you money. All an overdraft fee is, is just punishment for not leaving enough in your account to make it worthwhile for them to provide you with service.

Lots more if you want to check it out (like one of the best lay descriptions of fractional reserve banking I have ever read).

I have to say that I personally lean more towards the “it’s your responsibility” side and if you’re perpetually living so tightly that you live paycheck to paycheck and are always at risk of incurring these types of fees, maybe you should just use cash.

That said, the games that the banks play to increase the fees and squeeze out every last dollar are shameful (remember, “free” checking accounts really aren’t) and likely should be regulated and curtailed in some way. It all does seem rather underhanded and predatory.

One more thing: despite the common advice, my wife and I bank at a credit union and they play the same games with overdraft fees. We get pretty good customer service in other places, but when it comes to account fees they’re every bit as greedy and gimmicky as an big major bank.