For decades banks have used overdraft and NSF fee income to drive earnings. Now that this is ending, what will banks do?
OVERDRAFT INCOME: GONE BABY GONE!
For decades banks have used non-sufficient funds (NSF) and overdraft fees to subsidize free and reduced fee checking products. 2010 regulations requiring customers to opt-in for overdraft pay services slowed growth, but U.S. banks still collected more than $15 billion in 2020 and likely another $9-10 billion in 2021.
According to call report data, overdraft-related fees make up a small percentage of total income for the four largest U.S. banks: ranging from 1.2% for JPMorgan Chase to less than .5% for Bank of America, Citibank, and Wells Fargo. But these fees make up close to 6% of revenue for the next 16 largest banks and an even greater share for many smaller banks. With the Fed's benchmark lending rate near-zero, generating loan income is more challenging and non-interest income will continue to be exceedingly valuable yet debatable because it is hard to argue this source is “good” revenue given the potential harm to customers.
Regulatory and Market Changes
Late last year the Office of the Comptroller of the Currency provided clarity for the changes it would like to see from banks, including giving a grace period before charging an overdraft fee, making changes to posting practice, and not charging multiple fees in a single day.
According to the CFPB, overdrafts tend overwhelmingly to affect those living paycheck to paycheck. Nearly 1 in 10 Americans overdraw their accounts more than 10 times a year – alone, these customers alone account for approximately 80% of all overdrafts and NSF fees.
Meanwhile, under pressure from lawmakers, regulators, and consumer advocacy groups, many larger U.S. banks have taken steps to reduce their reliance on these fees. Several large U.S banks, including JPMorgan Chase, PNC, TD, Regions, and Fifth Third recently announced changes to significantly reduce overdraft income in the future. Meanwhile, Capital One and Ally Financial announced they would drop overdraft fees entirely across their products.
However, Bank of America’s announcement this month to reduce its overdraft fee from $35 to $10 will likely increase the pressure on other, smaller banks to react. In addition, Bank of America plans to eliminate customers’ ability to overdraw their accounts with ATM transactions, drop transfer fees for a program that lets customers link other accounts to avoid overdrafts, and eliminate NSF fees.
While less aggressive than the complete elimination of overdraft fees as Capital One and Ally did, Bank of America’s sheer size may convince others to reduce the amount charged to customers who find themselves in an overdrawn situation. While online banks don’t have the costs associated with branches, they cannot rely solely on revenue derived from account balances, such as low per-use fees or nominal monthly subscriptions instead of overdraft-related fees. The market has shifted – so what should banks do?
Replacing the Revenue
Banks clearly will be under pressure to make up lost income with the shift away from overdrafts, and a multi-prong approach focusing both on generating incremental revenue and reducing costs may be the best path. While the largest banks rely less on these fees and offer broader product models, others need to move promptly to address revenue gaps. Here are a few of the approaches we expect to see.
Expansion of Fee-Driven Accounts – Several banks have successfully introduced non-overdraft accounts to their full-service product suite with low maintenance fees – often $5 per month - and are attracting and retaining customers. In addition, as many fintechs are demonstrating, consumers already pay monthly fees for individual products and services that enable them to avoid overdraft fees, access more affordable just-in-time credit, and manage spending and liquidity. Thus, it is clear there are large segments of consumers – not just those living paycheck-to-paycheck - who will pay a monthly fee for comprehensive bundles of services.
Banks need to leverage the distinct advantages they offer relative to fintechs:
- Customer Data – Banks have uninhibited access to the entire customer relationship; deposit, lending, spending, and wealth data vs. fintechs, which rely heavily on data aggregators and may face friction from constantly evolving data security requirements
- Analytics – Banks have in-house credit risk and modeling expertise to allow them to best leverage the data and offer small-dollar credit alternatives
- Infrastructure – Offering enhanced balance tracking and related services will require some adjustments to internal accounting and interface development
Broaden Product Offerings - Several regional banks have recently made non-bank acquisitions to broaden their product offerings – often citing the need to make up for future reductions in overdraft income. For example, Regions Financial closed a deal for the commercial real estate lender Sabal Capital in late 2021, which followed its purchase of the home improvement lender previously. According to CFO David Turner, Regions is still looking at additional wealth management and corporate banking opportunities.
Regions isn’t alone among their regional bank peers but developing fee-based deposit account offerings and expanding other product capabilities may not be enough.
Identify Revenue Leakage and Reduce Costs - Generating incremental revenue is not just about rolling out new products. Identifying revenue leakage and missed opportunities in your existing business has a substantial impact. Many “below the line” cost reduction opportunities are waiting to be found.
Profit Insight’s consulting activities focus on identifying tactical and sustainable performance improvement opportunities from clients’ existing business activity across deposits, lending, cards, and payments:
- Non-Interest Income– Analyze current revenue streams to uncover leakage, including incorrect or less-than-optimal system behaviors and other items suppressing expected income
- Pricing and Margin Management– Validate and optimize interest and fee calculations, assessments, and collections
- Audit – Conduct an in-depth review of systems and processes ensuring they precisely do what our clients think and want them to be doing in practice.
Our ability to conduct engagements remotely, ensure a low-touch approach, and find actionable opportunities is critical to our clients, and we deliver on this promise. We are there when you need us to ensure each recommendation is implemented optimally and in the shortest time possible, providing immediate ROI.
Regardless of your current plan to address overdraft income in the coming months, we can help drive sustainable performance improvement to help you reach your goals.