When Financial Protection May Cause Harm

I had to reread the first couple of paragraphs of the story to make sure I had read them correctly.  Sure enough, the Wall Street Journal article said that a surprisingly high 75 percent of people have opted in for overdraft protection coverage from their bank or credit union.

In effect, such people have chosen the freedom to spend more than what’s in their checking account in exchange for a fee.

What Is Overdraft Protection?

Depending on your bank or credit union, overdraft protection usually kicks in when you try to buy something or pay a bill using your checking account and you don’t have enough money in the account to cover the cost.  It also may go into effect if you try to make an ATM withdrawal and you don’t have a sufficient balance.

If you have overdraft protection, your bank or credit union will approve the transaction and then charge you a fee as high as $34.  If you don’t have overdraft protection, your transaction will be denied and you will not incur a fee.

The Choice is Now Up to You

New regulations that went into effect earlier this year now require banks and credit unions to ask their customers whether they want to opt in for overdraft protection.  Previously, many financial institutions simply let people overspend their accounts and then charged them a fee.  It became a very lucrative source of revenue.

In 2009, overdraft protection fees totaled over $37 billion, according to the economic research firm Moebs Services.  Earlier this year, Moebs estimated that the new opt in requirement would drive such fee revenue down by about $2 billion.  However, now that the company has seen how many people have opted in for overdraft protection, it has changed its outlook, predicting that overdraft protection fee revenue will grow to $39 billion in 2011.

Do People Really Know What They’re Choosing?

According to the Wall Street Journal, most of those who have opted in for the service have done so “rather than face the embarrassment of being declined a purchase.”  But I wonder if that tells the full story.

I’m guessing that some people may have misunderstood the use of the word “protection” in the name of the service, believing they were signing up for something that would be to their financial advantage. To be fair, some probably may, in fact, want to “protect” against not having enough money in their account to cover an automated bill payment, such as a mortgage payment.  Missing that payment could make them liable for fees that are higher than what their bank or credit union charges.  Still, there are better options.

Just Say “No”

Of course, the best alternative to overdraft protection is knowledge: know how much money is in your account and don’t spend more than that.  If you insist on having overdraft protection, do you have a savings account at the same bank or credit union where you have your checking account?  If so, you may be able to link the two accounts, automatically drawing funds from your savings account to cover any overspending you may do with your checking account.  In some cases, there is no fee for such a service.  Or, if there is a fee, it will typically be less than the traditional overdraft protection fee.

Bottom line?  Your finances will be better protected if you keep close tabs on your checking account balance and opt out of overdraft protection.  By doing so, you will be opting in for overspending protection.

Did you choose overdraft protection for your checking account?  Why or why not?  Please leave a comment below.

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13 Responses to When Financial Protection May Cause Harm

  1. Eileen March 23, 2012 at 1:28 PM #

    I have opted in as our bank fee is only $15 per year and now that I’m a “senior” it is free. I don’t use it, but it’s just good to know it’s available.

  2. Marcy December 11, 2010 at 1:49 PM #

    I opted in for overdraft protection. I still keep tabs on what’s in my account, and don’t overdraw it. I have it in place just in case. I don’t want to be caught with an overdraft on my rent, etc. Not good. No one is perfect, and we all make mistakes, no matter how close a tab we keep on things. My credit union doesn’t charge me for this service to be in place…they only charge me when I use it. I feel that if a person is tempted to use this service, just to overspend…then they may have a general financial mindset problem to begin with, and may have additional, negative things going on with their finances.

  3. Matt Bell December 10, 2010 at 10:04 PM #

    Ross – Thanks for weighing in on this. I especially appreciate your insider perspective. The more that I’ve thought about this the more overdraft protection seems like a convenience surcharge — a fee in exchange for the convenience of not having to pay attention to our checking account balance too closely. I’m with you — keep a sufficient balance in the account and go without the “protection.”

  4. Ross December 10, 2010 at 9:38 PM #

    I work at a bank and we like to make this “service” seem better than it sounds. This is hear not to help the customers but to boost our bottom line period. If it wasn’t profitable then we wouldn’t offer it. Normally the poor and the “not-so-wise” middle class choose to opt in, whereas the wealthy avoid it like its the plague. The wealthy didn’t become wealthy by having this service, they became wealthy because they avoided gimmicks like these and chose to stick to a budget and would rather be embarassed by a card decline than give their hard earned money to the bank. Link your checking and savings accounts for a fraction of the cost of an overdraft fee. Build your savings account to $1,000 or more and don’t touch it except for emergencies. Be disciplined, no excuses, no explanations!

  5. Matt Bell December 7, 2010 at 2:31 PM #

    Thanks for all the great comments. It sounds like several people’s banks or credit unions offer more reasonable overdraft protection plans than is the norm. That’s encouraging.

    Dennis, what a great testimony to the benefits of a budget and the importance of acknowledging the spiritual aspects of money management. Thanks for sharing such an inspiring story.

  6. Dale December 7, 2010 at 12:16 PM #

    The “overdraft protection” from my credit union is firstly tied to a savings account and secondly tied to a pre-approved “line of credit”. This allows me to keep minimum capital in the low interest checking account without the danger of incurring any fees associated with overdrafts. Even if the line of credit is accessed it can be paid back within days for literally pennies.

  7. Dennis December 7, 2010 at 11:33 AM #

    Avoiding a need for checking account “overdraft protection” is so simple it’s almost laughable: (A) Maintain reasonable margin in your financial life and (B) keep a contemporaneous record of every checking account transaction. When my wife and I were unable to follow these simple steps early in our marriage, it was because of our repeated choices to overspend. Our financial life was in chaos, which was spilling over into other areas of our life. We implemented our first budget in 1970, and that was the beginning of our journey out of financial bondage and into financial freedom. I’m embarrassed now to acknowledge how long it took me to realize that spiritual issues were at the root of all our former financial problems. Having financial margin has helped us through difficult financial times and has also enabled us to act when God has given us nudges toward extra generosity. Pay our bank to protect us from overdrafts? No, thanks–we choose to protect ourselves much more effectively for free!

  8. Frank December 7, 2010 at 11:13 AM #

    The inital information looked good and I almost opted in but after further examination I could see it as a real mess. I keep track of my account with Quicken, yes it takes a bit of time and consistency, and stay away from making purchases etc when the balance gets too low. Also my bank will send me a notice when I reach a specified minimum balance to remind me. It is far less expensive that way but the saving is worth it.

  9. Brett December 7, 2010 at 10:36 AM #

    I chose to opt in for overdraft protection for the simple fact that at my bank the $5 fee for this service is cheaper than the $25 overdraft fee. I got burned a few months ago when my monthly pay check was not automatically deposited on time and some of my automated bills were deducted. I got a $25 charge for insufficient funds. I have made some changes in the timing of bills being paid to leave ample time for my payroll check to be deposited. But still have opted in for the protection so that if it were to happen again my bank would just pull the money from my savings account at the same bank to cover it with a charge of only $5.

  10. Diane Miller December 7, 2010 at 10:30 AM #

    Matt- As a multi-tasking mom who keeps track of banking online, I do it because I am hit by so many different bills & payments in so many different ways. I cannot remember(call it mom-brain!)when all payments pull & there is not one program that tracks everything the way I would like. I hated Quicken(I’m not a bean counter)& Mint is just okay. There is nothing “easy” that allows you to customize & track everything! It is challenging & I think, like most folks,I live in Fear that something that I forgot will “hit” before the paycheck!

  11. Caroline December 7, 2010 at 10:29 AM #

    Hi Matt,
    This is different from how overdraft protection was explained to me by my bank. Before I had overdraft protection, if my account was overdrawn I incurred a $35 fee. Now that I have overdraft protection, if my account is overdrawn it takes funds from a credit card (specifically for that purpose and without a balance) and I’m charged $10. Of course I go to great lengths to not overdraw my account, and now my bank even sends me an email to warn me a day ahead if my account is going to be below balance so I can deposit money that same day and avoid the overdraft and fees altogether. I’ll keep my overdraft protection even if I never have to use it again, it gives me peace of mind that my bills will be paid on time.

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