The bottom line impact of the August 2010 overdraft fee regulation changes will become apparent as banks and credit unions report quarterly financial results. No doubt the change will be big since overdraft fees have generated an estimated $30 billion annually for the industry.
There are early indications of how bank revenue may change based on results of the opt-in to overdraft programs institutions actively promoted prior to the regulatory changes. Historically, about 10-15% of customers have accounted for 85% of non-sufficient funds overdraft fee income. Yet, so far, according to Fiserv research, on average about 60% of these prolific users have opted to stay in overdraft programs.
There will always be consumers out there who, despite the new regulations, continue to need and want the kind of short-term liquidity provided by overdraft programs. Some of these consumers, if they haven’t already done so, are likely to opt-in after they experience being declined at the point of sale due to insufficient funds. But, even with new opt-in customers, the changing fee structures and the fact that many consumers will still opt-out, means that lower volumes of overdraft income will become the new normal. Therefore, financial institutions need to move fast to develop and implement strategies to replace, and ultimately exceed, the revenue lost to regulatory reform.
Identifying revenue expansion opportunities requires, at a fundamental level, an acknowledgement that not all revenue is created equal. Overdraft fee income carried a hefty price tag in terms of dissatisfied consumers and scrutiny from consumer advocacy groups, legislators, and regulators. What financial institutions need now are value-rich products and services that engender customer loyalty and enhance customer profitability while containing institutional costs.
Create new products to facilitate short-term funding
While the new regulations have the intent of protecting consumers they do not eliminate the inevitable need for short-term financing in case of an emergency or unforeseen expense. Leaving customers without funding options at the point of sale may foster resentment. Financial institutions can remedy the problem by tailoring products to customers who have both opted in and opted out of overdraft protection programs.
For consumers who have opted in, overdraft protection can be offered at different thresholds, based on an account-by-account review of each customer’s deposit history. Overdraft limits are then determined by an assessment of the customers’ ability to re-pay.
To keep customers that have opted-out from turning elsewhere for funding, financial institutions need to provide access to short-term and low-dollar liquidity product options as an alternative to overdraft. In keeping with the spirit of the times, these short term loan products should be designed to promote responsible borrowing behavior—and also must be marketed responsibly. Therefore, qualification for these short-term loans should be based on consumers’ deposit history, rather than a credit score alone. The products should be transparent, easy to understand and fair, with pricing levels proportional to the value received. And, to make payoff easy for the borrower and eliminate risk for the financial institution, repayment should be automated.
Replace revenue by rewarding preferred behaviors
In addition to creating small-dollar lending products, financial institutions should also consider offering new deposit products with incentives that promote loyalty, create new sources of card-based revenue, and drive adoption and usage of electronic payment products.
With fee income sharply curtailed, free checking is no longer a self-supporting business model. Instead of offering free accounts with a minimum of services, checking account pricing should reflect the depth of the customer relationship and the level of account activity. To that end, free checking customers should be encouraged to select a value-exchange account that incents them to meet certain balance or transaction volumes to earn interest, maintain free status, and also earn other perks and rewards.
Beyond just the checking account relationships, a customer loyalty program, tied to both checking and card accounts can grow relationships in terms of both satisfaction and profitability. According to Fiserv data, loyalty program activation can result in significant upticks in debit transactions and average spend per card.
New bill payment products, such as online bill pay, expedited bill payment and person-to-person banking products, can also drive incremental revenue growth while containing operational costs. When implemented effectively, these differentiated services can enable banks to generate more revenue from existing customers while acquiring new and profitable customer relationships.
To thrive in a world of curtailed overdraft fees takes a customer-centric approach that delivers value. It starts with products that are easy to understand and use and that are fairly priced. Enhancing the customer experience with short-term funding options, reward programs, online banking, and personal payments, financial institutions can safeguard profitability and market share.
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