When It Comes to Junk Fees in Banking, Credit Unions Can Be Among the Worst Offenders
Some of these nonprofits derive a surprisingly large share of their income by penalizing customers for overdrafts
It can happen to the best of us, getting dinged with an overdraft fee or non-sufficient funds (NSF) fee because our checking account balance slips into negative territory.
But after years of gorging on such fees—and under heavy regulatory and competitive pressure to knock it off—many banks are finally beginning to wean themselves from these highly lucrative revenue sources. And a newly proposed rule by the Consumer Financial Protection Bureau (CFPB) is likely to curb these fees even further, at least at big banks.
But one segment of the industry appears to be lagging behind: credit unions.
The Problem With Banking Fees
The 4,700 or so credit unions in the U.S., which have about 140 million members/customers, are nonprofits with a stated mission of improving the financial well-being of their members, often people of modest means.
And Consumer Reports has frequently recommended credit unions because the earnings they generate are effectively returned to their customers in the form of higher savings and lower lending rates. A February survey by the CFPB, for example, found that credit unions (and small banks) typically charge 8 to 10 percentage points less interest on credit card debt than the 25 largest card issuers.
So it’s both surprising and troubling that some credit unions are going hog wild on junk fees, even as many of their larger for-profit counterparts are trying to kick the habit.
Overdraft fees and non-sufficient funds fees are two sides of the same coin: Financial institutions charge overdraft fees when they let a debit card transaction, ATM withdrawal, electronic bill payment, or paper check go through even though the account doesn’t contain enough money. They charge NSF fees when they simply turn down such a transaction due to inadequate funds.
As recently as 2019, banks brought in more than $12 billion a year in overdraft and NSF fees. Regulatory pressure, combined with growing competition from online-only banks that heavily market their no-fee accounts, have led a growing number of financial institutions to lower or eliminate their overdraft fees and non-sufficient funds fees, saving U.S. consumers $5.5 billion a year as a result, according to the CFPB.
Overdraft fees and NSF fees are not inherently junky. Allowing an overdrawn transaction to go through can sometimes be a convenient service for consumers, and doing so costs a bank a modest amount of money (and exposes them to some risk). An overdraft, after all, is basically a short-term loan, for which it is reasonable to charge . . . well, something. And while larger banks have generally automated the decision-making over whether or not to let overdrawn transactions go through, at many small banks and credit unions a human being still makes these decisions, which adds to their costs.
That said, overdraft fees and NSF fees often get labeled “junk” fees for good reason.
For one, current fee levels tend to be grossly out of proportion with what they actually cost banks. While some banks have recently reduced these fees, the median overdraft fee at big banks is still $35, according to the CFPB, even though these “loans” are typically small (a median of $26) and are almost always repaid as soon as the customer’s next paycheck hits, usually within three days. The CFPB has calculated that a $35 fee on a $26 overdraft for three days is equivalent to an annual interest rate of about 16,000 percent.
That’s why the CFPB is trying to limit the size of overdraft fees to a reasonable amount, not ban them entirely. Its proposal would let financial institutions charge somewhere between $3 and $14, or a larger amount “in line with their costs” if they’re willing to show their data. If that rule is finalized, however, it would apply only to large financial institutions with more than $10 billion in assets, leaving out all but 20 or so credit unions, as well as smaller banks.
Another problem with overdraft fees and NSF fees is that even careful consumers are frequently surprised by them. That’s because it can be nearly impossible for customers to know whether a particular transaction will overdraw their account. Most notorious are what the industry calls “authorize positive, settle negative” transactions, where an account has enough money when the transaction is initiated and the bank approves it, but not enough when the bank processes it—often because another transaction was processed first. Consumers can even be hit with multiple such fees in a single day, adding up to hundreds of dollars.
Credit Unions Acting Like Banks
On top of all that, we know that overdraft fees and NSF fees disproportionately hit people of color and consumers with lower incomes and less education, and furthermore that 80 percent of these fees are paid by only 9 percent of customers.
This may be the most troubling issue when it comes to credit unions that generate big portions of their earnings through fees. As nonprofit institutions with a responsibility to promote their customers’ financial health, they get a pass on many banking regulations (as well as corporate income taxes). Yet some appear to have built their business models around collecting excessive fees from their most vulnerable consumers.
In this respect, fee income is arguably part of a broader concern: That certain credit unions are exploiting their exemption from banking regulations while behaving more and more like banks. For example, credit union membership has historically been restricted to a particular group—members of a certain profession, say—but now some credit unions let anyone join.
Aaron Klein, an economist at the Brookings Institution think tank who has been critical of that kind of mission creep, points to fee-reliant credit unions that have bought NBA stadium naming rights and corporate jets. “That is not what the credit union movement is about or what it was founded for,” says Klein. “The vast majority of credit unions are small entities that operate like nonprofits dedicated to their mission. But credit unions that act like banks should have to follow bank rules.”
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Indeed, CR’s advocates support the CFPB’s proposed overdraft limits but would like to see the rule broadened beyond institutions with $10 billion in assets to protect more consumers. And there seems to be a growing consensus within the credit union industry itself that the issue needs to be addressed: A 2022 report from the Filene Research Institute, an industry think tank, acknowledged bluntly that “it’s time to rethink credit union noninterest income . . . and credit union leaders know it.” But many credit unions say they need more flexibility and time to adapt. “A one-size-fits-all fees structure is counter to the mission of providing consumers pathways to financial stability,” says Jim Nussle, president of America’s Credit Unions, the industry’s largest trade association.
Of course, we can’t be sure how many credit unions outside of California are bingeing on fees. But thankfully that will soon change. Todd Harper, chair of the National Credit Union Administration (NCUA), which regulates credit unions, announced in early February that his agency will be requiring credit unions to report their overdraft fees and NSF fees if they have more than $1 billion in assets. That cutoff includes only about 400 of the 4,700 federally insured credit unions in the U.S., but represents about 90 percent of assets held by credit unions. The NCUA says the data will be made public in early June.
So what should consumers do? If you’re having trouble maintaining a cash cushion in your checking account and are frequently getting hit with overdraft fees or NSF fees, ask your bank or credit union for alternative ways to manage your cash flow. Many now offer grace periods before charging fees (and won’t charge you at all if the overdraft is under, say, $20), as well as less punitive alternatives to fees, including small short-term loans and overdraft lines of credit that will cost you a tiny fraction of the effective interest rate on an overdraft fee or NSF fee.
