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The Search Widens for Fee Income and Profits

By: Bill Poquette

With overdraft fees shrinking and debit card interchange fees threatened as well, the end of free checking to lure new customers is being widely predicted. Headlines about Bank of America and JPMorgan Chase raising charges on basic accounts tend to give these predictions life.

No question, the hits to these revenue streams from recent legislative and regulatory actions are serious blows, not love taps. A 10–25 percent reduction in fee income is expected from Regulation E changes requiring customers to opt-in before they are charged fees for ATM and one-time debit card transactions that overdraw an account. The Durbin Amendment to the Dodd-Frank Act may reduce debit card interchange fee income as much as 50 percent. Another 20–30 percent drop in overdraft fees may be the result of new FDIC guidelines taking effect in July recommending limits on small overdraft fees, a daily cap on overdraft fees and notification to the consumer after six overdrafts over a rolling 12-month period.

According to Michael Moebs, economist and CEO of Moebs Services, about $2 billion in revenue was lost in 2009 in the fourth quarter, when banks and credit unions started to implement their own floors and ceilings on overdrafts, in response to consumer and Congressional complaints. Another $2.3 billion in revenue was lost during the first quarter of 2010 due to the introduction of the opt-in regulation by the Federal Reserve and changes made by depositories. Finally, it cost banks and credit unions about $2 billion in operational costs and training to implement the opt-in regulation and their own changes to overdraft services.

“When you add the lost revenue and the additional cost of the new overdraft regulations, it amounts to about $6.3 billion erosion into profitability for all banks and credit unions,” said Moebs.

It is a bleak picture, so the easiest thing to do is increase fees on checking accounts, right? That, however, may very well repel rather than attract customers and drive some to payday lenders. Fortunately, creative vendors and community banks are coming up with new devices to replace this vanishing fee income — including free checking.

Strunk Financial Services LLP, which has been a leading purveyor of overdraft protection plans for community banks, has come up with a new program designed to recoup income lost from compliance with new rules and regulations. It’s called “Better Than Free” Preferred Checking.

As described by Mike Sobba, president and CEO of the Houston-based firm, Preferred Checking includes everything banks give away currently with free checking, plus a merchant discount program, ID theft restoration service, $10,000 accidental death and dismemberment coverage, and emergency travel assistance.

Key to the service is the merchant discount feature, which lets customers purchase gift cards for their favorite retail stores, restaurants and gas stations with 20 percent cash back for each purchase. The complete package costs the checking account customer a modest $5 or $6 monthly fee.

Sobba calls Preferred Checking “an outstanding, customer-oriented product” that can “restore critical fee income at your bank.” Strunk’s support functions include recommended best practices that comply with all applicable laws and regulations; training and education for bank staff; and ongoing analysis and recommended enhancements based on evolving best practices. Advertising support materials are also available.

Haberfeld Associates, a consulting and marketing firm in Lincoln, Neb., that specializes in new customer acquisitions and checking account profitability, believes free checking is still viable. It does not depend on overdraft income to be viable and adds to profitability in other ways.

Stressing the importance of checking accounts, Haberfeld points out they are the hub, or first banking relationship more than 64 percent of the time.

Citing data collected by Moebs Services, Haberfeld pointed out during a recent webinar that about 64 percent of big banks currently offer free checking versus more than 90 percent in 2009. This represents a once-in-a-lifetime opportunity to grab market share, in Haberfeld’s view.

Customers want free checking. It is the No. 1 reason consumers will switch banks, according to Haberfeld’s research. They hate regular service charges, minimum balance requirements and nuisance fees. And new laws and regulations don’t change what customers want.

Haberfeld’s studies show that branch overhead is the same with 1,000 customers or 3,000 customers. In a white paper published by the Financial Managers Society, Jeff Platter, vice president for business intelligence for Haberfeld, pointed out that most community bank branches are at less than half capacity. That being the case, cost models should look at marginal costs to add customers, he wrote.

The impact of accounts per branch on return on assets is significant, Haberfeld’s data show. It begins at 0.35 percent with less than 1,000 customers, and rises steadily to 1.10 percent with more than 2,000 customers.

Platter also recommended looking at household profitability. In an example in the white paper, he describes a couple who may have a primary checking account with an average $3,000 balance, direct deposit and moderate debit card usage with an occasional overdraft. A second account, perhaps for a special purpose, may have a $200 average balance, no debit card, no overdrafts and they do not buy checks from the bank. The latter account would be unprofitable but the primary account would more than make up for it, according to Platter.

Without free checking, customer acquisition and retention become harder, Haberfeld explained in the webinar. It was pointed out, however, that when profitability is examined at the household level and a contribution model is used at the account level, free checking is viable.

And if free checking is not dead, neither is overdraft protection and the income stream it produces. Haberfeld Associates projects that overdraft income will not decrease by as much as predicted and Moebs Services suggests it will actually increase.

Last fall, a Moebs study estimated total overdraft fee revenue for 2010 at $35.4 billion — down from $37.1 billion in 2009 and even with 2008. The study showed that total revenue bottomed out in the first quarter of 2010 but started to rebound in the second quarter. And Michael Moebs is optimistic for 2011: “We also estimate that overdraft revenue will increase in 2011 to $38 billion and be the highest ever for the industry,” he said.

Moebs pointed out that about 90 percent of overdraft revenue comes from frequent users. The study indicated that frequent users, those with 10 or more overdrafts in a year, almost all opted in. For all consumers, consent varied between 60 percent and 80 percent with a median of about 75 percent.

The median overdraft price increased to $28 per check in 2010 from $26 in 2009. NSFs increased from $25 per check returned in 2009 to $27 in 2010.

“Even with the price of overdraft protection going up, it appears from the opt-in numbers that the American consumer is saying they want and need overdrafts,” Moebs concluded.

Bill Poquette is editor-in-chief of BankNews.

Copyright © February 2011 BankNews Media