Were Overdraft Fees Created in 1990?

On February 2 2023, an Imgur user shared a screenshot of a tweet which claimed that overdraft fees were “created in 1990”:

In the screenshot, the Twitter handle for American politician Nina Turner (D) was visible. No date appeared on the screenshot, but Turner published the tweet on February 1 2022:

According to the Federal Deposit Insurance Corporation (FDIC),”overdraft fees … occur when you don’t have enough money in your account to cover your transactions” and a banking institution imposes an additional fee as a consequence. Overdraft fees turned up at least twice in previous fact checks (in 2018 and 2020), and the tweet also resembled (accurate) claims that FICO credit scores were not introduced as a measure of creditworthiness until 1989.

Turner’s tweet did not include any corroborating information; reply tweets initially discussed the manner in which overdraft fees “pile up” on overdrawn banking customers:

A search for information about the origins of overdraft fees led to a soft-paywalled July 2022 Bloomberg.com article, “Myth of ‘Free’ Checking Costs Consumers Over $8 Billion a Year.” It opened with commentary from individuals who struggled with overdraft fees, later describing the fees as entering the picture “decades ago”:

Letitia O’Brien was down to about $1.70. It was March and the 62-year-old retired nurse had found herself here before. Months earlier, when she didn’t have enough to cover an electric bill around $300 and a CT scan of her chest that cost her about $100, her account with PNC Financial Services Group Inc. overdrafted, triggering a chain of $36 fees. Now she was worried that an upcoming grocery delivery could put her back in the same dark place.

“I’m just laying here worrying,” O’Brien said. “If that hits my bank before I get my next disability check, then I’m in big trouble—again.”

Earlier [in 2022], when the Consumer Financial Protection Bureau put out a request for comments about junk fees, part of its push against overdraft and other charges, O’Brien was one of more than 50,000 people who wanted their voices heard. “I’d like to see them eliminate the fees altogether, but that’s never going to happen,” she said. “Let’s be realistic.”

[…]

When overdraft fees first surfaced decades ago it wasn’t Wall Street that came up with the concept—it was consultants. An army of independent advisers spent much of the 1990s pitching bank executives on the powers of implementing “overdraft privilege” programs. The consultants came armed with data showing that a customer who’s charged one non-sufficient-funds fee per month generates as much profitability for lenders as one maintaining a $12,000 average balance, according to a 2003 report. They taught lenders how to order the processing of consumer transactions to maximize overdraft fees. Instead of making their normal efforts to collect on debts, banks were told to send letters thanking customers for overdrafting, even as they charged them for it.

The scheme was more profitable than Wall Street could have ever imagined, with overdraft and related fees soaring to about $34 billion a year by 2008. The head of one midsize lender even named his boat Overdraft.

A November 2022 Brookings Institute report about overdraft fees was published after Turner’s tweet, and it referenced “the 1990s” as the advent of overdraft fees. A December 2021 USAToday.com article briefly indicated that the fines “started in the 1990s.”

A 2021 paper published to ConsumerFinance.gov about “underbanked” Americans (people with reduced access to commercial banking services, PDF) mentioned in passing that overdraft fees evolved with the debut of electronic debiting in the 1990s. Prior to that development, banks often elected to extend the “credit” of an overdrawn account case-by-case  on the basis of bank discretion:

Before the advent of electronic debiting in the 1990s, overdraft credit was provided strictly on a manual basis with a bank officer deciding on the spot whether to cover the occasional “bad check” for its more trusted customers. As ATM and POS debiting proliferated, bankers needed real-time overdraft credit decisions and so began adopting automated overdraft programs. Under such “bounce protection” programs, banks enroll nearly all depositors for credit up to a limit and pay every overdraft transaction as long as the account balance remains within the credit limit (Joint Guidance on Overdraft Protection Programs, 2005). Developers of the programs marketed them as a source of revenues to banks and potential benefit to depositors.

However, ATMs and electronic deposits weren’t the only factors involved with the introduction of overdraft fees for banking customers. A 1978 New York Times article (“Banks Get Right To Keep Checks From Bouncing”) reported on new banking regulations enabling banks to use savings accounts to cover insufficient funds — and touching upon controversy between commercial banks and “thrift institutions”:

The Federal Reserve Board voted [in May 1978] to permit member commercial banks, beginning Nov. 1 [1978], to transfer money automatically from their customers’ savings accounts into overdrawn checking accounts if customers request the service.

The move, which has the support of large commercial banks and consumer groups, is strongly opposed by representatives of savings and loan associations and mutual savings banks —known as thrift institutions — who see commercial banks getting an unfair advantage.

[…]

The Federal Reserve presented its new regulation as a service to consumers and the economy. It provides an automatic protection against writing bad checks. Money would be shifted from savings to checking accounts only when there were Insufficient funds to cover a check or meet a minimum balance.

When a check bounces today, a customer is usually charged from $5 to $7. Under the new plan, banks may charge a fee if they make a transfer, but the fee, analysts said, would probably be in the range of 25 to 50 cents.

In December 2022 dollars, 25 to 50 cents would be USD$1.15 to $2.30.

On May 7 1978, the New York Times published another article about friction between commercial banks and “S. &L.’s” (savings and loans institutions), citing unintended consequences for future prospects of homeownership:

The move is an aid to consumers and also helps the Fed in its check-clearing duties. If the plan reduces the number of overdrafts, fewer returned checks would have to be processed.

But savings and loan institutions are livid. Robert H. McKinney, the chairman of the Federal Home Loan Bank Board, which oversees Federally chartered savings and loan institutions, expressed his fear that savers would transfer money to commercial banks from the S. & L.’s. These institutions generate most of the funds for home mortgages and a loss of customers would reduce the amount of money available for mortgage loans. Mr. McKinney called on “every prospective American homeowner” to complain to Congress about the Fed’s action, which he termed “a tourniquet on the supply of savings.” The savings and loan industry vowed to sue to block the plan.

Interrelated reporting over the years provided scattered pieces of banking history as much as it showed evidence of shifting perspectives about banking practices and public perception — material published prior to around 2008 carried a tone of admonishment toward banking customers, whereas reporting after that point heaped some of that suspicion onto unscrupulous banks.

After 1978, the most relevant subsequent mention of overdraft fees we spotted was in a 1996 editorial about creative arbitrage involving “teaser” offers; the author “made” nearly $600 by cautiously curating mailed solicitations. In July 1999, a $45 overdraft fee warranted a passing mention in an article about the billing practices of AOL.

In January 2003, “Banks Encourage Overdrafts, Reaping Profit” evaluated what was at the time a new cash cow for banks — overdraft fees. It began with a tone of surprise that decades later reads as nearly quaint, while explaining that banks increasingly promoted an arguably irresponsible bug (or feature):

At least 1,000 banks are encouraging customers with low balances to overdraw their checking accounts, allowing the banks to skirt credit laws and collect billions of dollars in new fees.

The banks’ programs cover checks that would otherwise bounce and even allow people to overdraw their accounts with A.T.M. and debit cards. The fees are paid disproportionately by low- and moderate-income people, according to industry consultants who help banks create and market the programs. One consultant advises banks to maximize the fees by opening branches ”in supermarkets, particularly supermarkets with a middle to down market and a family target market.”

Banks say that they are offering a service that enables people to avoid paying bounced-check fees to retailers. But many inside and outside the banking business say the programs, while extremely profitable for the banks, are a bad deal for consumers and amount to high-interest loans.

The move to encourage overdrafts is a major shift. In the past, when consumer groups complained that bounced-check fees were excessive, banks generally responded that high fees encouraged people to use their checking accounts responsibly. Now, with banks increasingly dependent on fees from consumers, overdrafts have become a source of profit.

A notable “benefit of the doubt” tone was present throughout the lengthy archival piece, which contrasted the cost of overdrafts with those of high-interest products such as payday loans. Several times, representatives for banks vacillated on the matter of fiscal responsibility, or framed the fees as simultaneously convenient and punitive:

Depending on how quickly the overdrafts are repaid, their fees translate into an annual interest rate that can reach several thousand percent, far higher than the rates permitted by state usury laws.

Banks and consultants say that using an annual percentage rate to calculate the cost of the overdraft is misleading, because the fee is more like a credit card late fee than a loan … But critics say the programs are similar to the ”payday loans” made by check-cashing outlets and other ”fringe banks.” Those loans, which are often exempted from usury laws because of their small size, usually cost $10 to $15 for every $100 borrowed and must be repaid in two weeks, terms less expensive than the cost of the overdraft programs.

[…]

The move to encourage overdrafts is a major shift for banks. In the past, when consumer groups complained that bounced-check fees were excessive, banks generally responded that high fees encouraged people to use their checking accounts responsibly.

“Overdraft fees are intended to be in a sense punitive, because what you’re doing is technically illegal,” said Diane M. Casey, the president of America’s Community Bankers, a trade group of 1,300 small banks that markets overdraft protection programs to its members. Ms. Casey said the programs did not imply that her group supports overdrafts.

By 2008, reporting was beginning to inject a far more critical tone toward to banking and overdraft fees. A New York Times profile of the check cashing industry repeatedly compared the facilities with banks, historically and at press time:

Even [check cashing facility] payday loans are transparent. “Your max is $150, so make it out for $172.50,” the cashier Joseph told a stocky black woman in a baseball cap, standing at the counter with an open checkbook. (Unlike check-cashing customers, payday borrowers are by necessity bank customers — they have to write a postdated check to get a loan.) The woman was paying a lot — $22.50 to borrow $150 for just two weeks. But there were no surprises, no hidden fees.

Compare that with what a lot of banks do. Bank of America took heat earlier this year [2008] for more than doubling the interest rate on some credit-card accounts, even if the cardholder pays every bill on time. Banks, meanwhile, have nearly quadrupled their fee income in the last decade, according to the F.D.I.C., while credit-card late charges and over-limit charges have nearly tripled. Fees imposed on customers for temporarily overdrawing their accounts — by accident or on purpose — have been particularly lucrative; banks made $25.3 billion in 2006 on overdraft-related fees, up 48 percent in two years, according to the Center for Responsible Lending. On the Web site of Strunk and Associates, a big seller of overdraft programs, bank and credit-union executives offer glowing testimonials. “Strunk’s program has exceeded expectations,” one writes. “We have generated a 100 percent increase in overdraft revenue.”

Finally, a September 2009 article (“Overspending on Debit Cards Is a Boon for Banks”) articulated elusive, specific details about the architect and origin of overdraft fees. The story led with the introduction of ATM cards, inherently limited by bank balances, and continued:

But then A.T.M. cards started acquiring Visa or MasterCard logos, allowing users to “debit” their bank accounts for purchases. A thorny issue soon sprang up. What if there wasn’t enough money in a cardholder’s account to cover a purchase?

For years, banks had covered good customers who bounced occasional checks, and for a while they did so with debit cards, too. William H. Strunk, a banking consultant, devised a program in 1994 that would let banks and credit unions provide overdraft coverage for every customer and charge consumers for each transgression.

“You are doing them a favor here,” said Mr. Strunk, adding that overdraft services saved consumers from paying merchant fees on bounced checks.

Some institutions do not see it that way, and either do not offer overdraft services or allow their clients to decline the service. “We’ve never subscribed to the notion that individuals who overdraw or attempt to should be allowed to do so without the opportunity to opt in,” said Gary J. Perez, the president and chief executive of the University of Southern California Credit Union.

By 2010, the outlet’s reporting included then-new government oversight of overdraft fees, alongside details of how enormously lucrative they had proved to be for banks:

So many people now dip their balance below zero that banks generated an estimated $20 billion from overdraft fees on debit purchases and A.T.M. transactions in 2009, according to Michael Moebs, an economist who advises banks and credit unions. All of this revenue is potentially at risk, since these are the two areas that the new Federal Reserve regulations cover. (Banks generate an extra $12 billion by covering checks and recurring bills; under the new rules, they can still cover those and charge fees without customers’ consent.)

Over the last decade [1999 to 2009 or 2010], [overdraft] fees have become an increasingly important source of income for banks as consumers have turned to debit cards to pay for a wide variety of their purchases, whether monthly bills or a pack of gum. (Many banks also offer less controversial overdraft programs in which consumers sign up to cover shortfalls in their checking account by pulling money out of a savings account or a credit card.)

In 2014, banks came under scrutiny for re-ordering transactions to maximize overdraft fees:

While some banks have made changes, half of the country’s big banks still may reorder your daily transactions in a way that maximizes the potential fees you will pay if you overdraw your account, according to a report released this week [in 2014] by the Pew Charitable Trusts.

The report scrutinized the practices of 44 of the largest banks based on deposits. It found that half still reorder transactions from the largest amount to the smallest amount — known as “high to low” posting — rather than processing them either from the smallest to largest amount, or in chronological order. High-to-low posting tends to result in fees being applied to several smaller amounts, rather than one fee applied to a single, larger amount.

Critics of the “high to low” practice say it can result in multiple charges set off by small purchases — as when buying a cup of coffee overdraws an account, resulting in a (typical) $35 overdraft fee.

A 2016 article about extremely complicated and hidden overdraft fees  reiterated how the practice of reordering bled low-income customers dry:

[Debt related to overdrafting] is by no means a new problem. In a series of class-action lawsuits beginning in 2009 against more than a dozen big banks, customers accused banks of hiding a practice known as reordering. The practice, the lawsuits revealed, involved deliberately processing large transactions like mortgage payments first before taking out smaller charges, like a purchase of coffee — even if customers bought the coffee first. By arranging the order of transactions, the banks could maximize the number of overdrafts they charged. At the time, some banks defended the practice, arguing it ensured that large, important bills were covered.

A popular February 2 2023 Imgur post showed a tweet claiming that “Overdraft fees were created in 1990,” originally tweeted by Nina Turner in February 2023. Contextually, “1990” was mentioned to emphasize that overdraft fees were, in essence, very new. Most mentions of the origins of overdraft fees indicated they “started” in the 1990s, but without a solid start  date given, implying that the changes were gradual. A 2009 New York Times article about payday loans and banking reported that “William H. Strunk, a banking consultant, devised a program in 1994 that would let banks and credit unions provide overdraft coverage for every customer and charge consumers for each transgression,” i.e. overdraft fees. Although the claim is True, the year that best matches it is approximately four years more recent. In any case, overdraft fees are a relatively new and highly lucrative invention, not a long-standing foundation of the banking industry.