Banks are waiving overdraft fees. Should they be doing more?

Banks didn’t hesitate last month to waive overdraft fees when the coronavirus pandemic capsized the national economy and put tens of millions of people out of work and under severe financial distress.

Now, as the struggle continues, a growing number of voices are calling for banks (with the help of their regulators) to go a step further by making creative use of overdraft programs and other small lines of credit as a way to get money into the hands of cash-strapped consumers and businesses as quickly as possible.

Citizens Bank of Edmond, a $300 million-asset lender in Oklahoma, already crafted a no-interest overdraft line that customers repay when they receive checks from the federal government’s $2 trillion coronavirus relief bill. But CEO Jill Castilla says there is more that should be done—specifically, creating an overdraft line-of-credit program backstopped by the federal government to reduce banks’ risk.

“It’s the most expeditious way for borrowers — consumers and businesses — to access credit,” said Castilla, who is also a member of the board of the American Bankers Association. “It’s something that’s never been done before … using lines in a more substantial way to get funds.”

By and large, banks have not substantially modified their overdraft programs in the wake of the COVID-19 crisis and the ensuing economic fallout. To be sure, they want to help their customers — most are waiving overdraft fees automatically or by request — but so far there have been no permanent shifts.

That could soon change as lawmakers continue to put pressure on banks to cut overdraft fees in favor of “reasonably priced” overdraft lines of credit, and five prominent regulatory agencies call on financial institutions to provide “responsible” small-dollar loans to consumers and small businesses.

Add to that a surge in unemployment numbers across the nation and another glitch-ridden round of the government’s Paycheck Protection Program, and it is no wonder that bankers, economists, policy experts and even billionaire investor and entrepreneur Mark Cuban are throwing out ideas for emergency credit programs in a time of financial crisis.

Exactly which suggestions might stick remains to be seen, but there are several to ponder.

One of first ideas to emerge in this crisis came from the economist Arnold Kling, who outlined his idea for a nationwide credit line in a March 22 blog post. Citing a liquidity crisis, Kling suggests banks add a low-interest line of credit, backed by the Federal Reserve, to every personal and business bank account in the country.

“We need outside-in liquidity,” Kling wrote. “We should guarantee liquidity for the nonfinancial sector and trust that this will take care of the banks, rather than try to do it the other way around.”

Those who need it would be “temporarily strapped individuals and businesses who expect to get back on their feet once things return to normal,” Kling said. Those who do not need it will not use it, he said.

But the economist G. Michael Moebs, of Moebs Services, says the Fed does not need to be involved at all. According to Moebs, there are $46.1 billion in unused overdraft limits that could be tapped immediately instead of waiting on the government to send relief checks to individuals and coordinate financial aid programs like the PPP for workers or Main Street Lending Program for businesses.

So what’s needed? A decrease in overdraft fees — either a temporary suspension of the overdraft fee to zero or cutting the price in half to somewhere around $15 per overdraft, Moebs said. Doing so would significantly boost banks’ fee income, but banks would have to get used to the idea of unsecured credit, he said.

“Unsecured credit is not very well understood … but it can be very profitable if both the price and supply of it is done correctly,” Moebs said. “Any [overdraft fee] of $20 or greater is wrong and [overdraft] limits of $500 for everybody is wrong.”

Fueling more recent brainstorming sessions is the paycheck program run by the Small Business Administration, which offers businesses with 500 or fewer employees loans of up to $10 million that can be forgiven if borrowers spend the funds on payroll and other necessities. Critics say it is inefficient, ill-structured for the smallest businesses and hard to access. On Monday, the day that the second round of funding became available, many banks had trouble filing loan applications for clients.

Cuban, a small-business expert, is pitching an alternative to PPP. The owner of the Dallas Mavericks basketball team proposes a special overdraft protection program for small businesses in which banks work with the customers they know to determine how much to lend so that businesses can cover expenses.

Like Kling’s idea, Cuban’s program would be backed by the Fed.

“The things that you could spend money on — rent, utilities, basic overhead, and payroll and affiliated payroll costs — those things could be overdrafted,” Cuban said on a recent episode of the "Banking with Interest" podcast from Promontory Interfinancial Network.

The consumer finance team at the Pew Charitable Trusts has studied issues related to overdrafts for years.

The nonprofit organization’s research shows that traditional overdraft programs that charge fees — as much as $35 per overdraft — tend to function as costly, inefficient credit, especially for customers who use it as a way to borrow small amounts of money. But the idea of establishing formal rules for banks to offer small lines of credit and small installment loans is much more promising, according to Pew senior officer Alex Horowitz.

So far, just one major bank in the country — U.S. Bancorp in Minneapolis — offers a small installment loan program, Horowitz said. Customers have three months, not three days, to repay the loan, he said.

More widespread creativity around overdrafts — or at least some framework that would detail exactly how small-dollar loan programs should work — might be on the way. Earlier this month, as the pandemic continued to stall the economy, a group of regulators issued a joint statement encouraging banks and other lenders to make small-dollar loans. The Office of the Comptroller of the Currency issued guidance on the subject in 2018, but the other agencies — the Fed, the Federal Deposit Insurance Corp., the National Credit Union Administration and the Consumer Financial Protection Bureau — have not yet done so, and that leaves some banks hesitant to start offering such loans.

“With some guidance from the regulators, banks could be more flexible in how they determine who qualifies for a line of credit, whether it’s an overdraft line of credit or a small line of credit that’s not tied to overdraft,” Horowitz said. “It’s the same thing with small installment loans. There’s no reason a customer needs a prime credit score to get a $400 loan. We’re not talking about lending to people they don’t know. We’re talking about lending to people who are their customers.”

Castilla said something has to give, especially when federal relief programs like PPP dry up again and certain businesses continue to need quick access to small-dollar loans.

“I think there’s going to have to be something,” Castilla said. “I just don’t know what it will look like.”