Overdraft privilege is discretionary short-term courtesy provided by banks and credit unions to consumers who lack sufficient funds to cover a purchase. Overdraft privilege programs may cover checks, electronic transactions, online bill pay, and, when customers opt-in, ATM withdrawals or debit/point-of-sale purchases. This safety net enables customers to meet their needs and avoid the financial strain, complications, and embarrassment of having checks returned and/or transactions denied.
Overdraft privilege programs are non-contractual agreements between institutions and consumers, and many banks and credit unions agree to extend overdraft services to all customers or members who maintain accounts in good standing. (Typically, financial institutions consider customers' accounts to be in good standing when they make deposits to bring an overdrawn balance back to zero within 30 days of the initial overdraft, do not excessively overdraw their funds, and have no legal orders attached to their accounts.) When a customer lacks the funds to make a transaction, the financial institution will allow the payment to be processed and temporarily cover the cost of the transaction for a fee. The customer will then be responsible for paying the fee and bringing the negative balance back to zero within a specific period.
Several studies have proven that Americans of all age groups, demographics, and income brackets utilize overdraft privilege and consider it a valuable service. A Georgetown University study revealed that some consumers seek out banks and credit unions that offer overdraft programs, namely because this short-term financing option is more accessible and financially advantageous compared to other alternatives.
Many Americans may not have the qualifications or time to apply for traditional lines of credit, forcing them to turn to risky payday loans or high-interest credit cards in a cash crunch. Overdraft privilege programs, in contrast, provide customers with an immediate and relatively low-cost alternative.
No bank or credit union is required to offer overdraft privilege services, and they also retain the right to revoke those services for consumers who abuse the program. However, more than 50 percent of Americans with checking accounts will utilize this service at some point in their lives, and many may turn toward financial institutions that offer this short-term safety net.
The Consumer Financial Protection Bureau's probes and Congress’ continued scrutiny of overdraft programs may have many banks and credit unions wondering what it takes to develop and market a successful overdraft program.
The key is including only reasonable overdraft fees, avoiding the unscrupulous practices previously employed by some institutions, and operating with transparency and full disclosure. This includes avoiding the manipulation of transactions to boost fees, eliminating daily fees, and instead establishing a daily cap on fees. In addition, banks and credit unions that are flexible and do not charge fees for minimal overdrafts may also attract more customers and avoid the level of scrutiny assigned to the megabanks.