Laura Rowley Money & Happiness

The nation's 10 largest banks routinely cover overdrafts for customers without their consent, and are boosting fees for the service, according to a new survey by the Consumer Federation of America and the National Consumer Law Center.

Drawing Out the Pain

Someone who has a single overdraft that remains unpaid for a week faces up to $70 in fines. An account holder who has a dozen overdrafts in a single day -- a scenario that might occur when a large deposit doesn't clear immediately -- could pay up to $450 in fees, the study found.

"The majority of these overdrafts are being triggered by debit-card purchases which are small, so you may be paying more for the fee than the amount you borrowed," says Jean Ann Fox, director of financial services for the Consumer Federation. "The bank takes it out of your next deposit -- so it's a very short-term loan that's extremely expensive, made to people who didn't ask to borrow in this way." (See my blog for an easy way to avoid overdraft fees.)

Overall, consumers pay $17.5 billion a year for unauthorized overdraft fees, according to a study by the Center for Responsible Lending. Part of the reason is that in an era where most transactions occur using plastic or electronic payment, writing down everything in a check register is becoming a lost art.

Among the survey findings:

• Half of the banks use a tiered overdraft fee structure -- up from one-third in 2005 -- charging escalating fees for more than one overdraft over a rolling 13-month time period. For example, Bank of America charges $25 for the first overdraft, then $35 each for subsequent overdrafts.

• Sixty percent of the largest banks add a "sustained overdraft fee" if an overdraft is not repaid within a few days. These banks add $6 to $8 per day until the overdraft and fees are repaid, or charge a flat fee. For example, SunTrust Bank charges $35 for the initial overdraft, and adds an additional $35 fee on the seventh day if the overdraft remains unpaid, for a total of $70.

• Only 3 of the 10 largest banks set a maximum number of transactions that can trigger an overdraft fee in a single day. Bank of America permits up to seven in one day, up from five last year, for a maximum of $245 per day in fees. U.S. Bank limits customers to six paid overdrafts and six insufficient funds transactions in one day, for a total of $450 per day in fees.

• With one regional exception, the banks all process the largest withdrawals first, or pay withdrawals in any order they choose, resulting in additional fees when smaller subsequent transactions overdraw an account.

The Cavalry Isn't Coming

I covered this issue in a column last year, when several members of Congress proposed legislation to curb abusive overdraft practices. That bill has been stuck in committee since spring 2007. Earlier this year, the Federal Trade Commission proposed rules that require banks to give customers the opportunity to opt out of bank overdraft loans to avoid future fees. (It's part of a package of regulations aimed mainly at egregious credit card practices. Public comment on the rules closed earlier this month, and it's not known when the FTC will issue final regulations.)

But consumer advocates say customers should be required to opt in, not out. "We think banks should make you affirmatively sign up for it," says Fox. "And, of course, if banks had to post the APR for this, there might be a little pressure on the banks to charge less."

Computing overdraft charges on an annual percentage rate basis, these short-term loans have mind-boggling interest rates. (See my blog for an example of a consumer who pays 3,400 percent interest for a two-week loan of $130.) The legislation pending in Congress would've amended the Truth in Lending Act to specify that overdraft fees are finance charges, and require banks to report annual interest so consumers could compare overdraft loans with other credit options -- such as lines of credit, which typically offer annual interest rates of less than 20 percent. But the FTC regs don't address this issue.

Hiding the Truth

Consumer advocates also propose rules limiting banks from manipulating the order in which they process withdrawals to boost overdraft fees -- also not part of the FTC's proposed rules. The survey found only the Texas branch of Citibank pays the smallest withdrawal first; all the others either pay the largest first or in any order they choose.

For example, consider someone who has $1,000 in an account, and writes a single check for $900 and then conducts five debit transactions for $50 each. The person has overdrawn the account by $150. Rather than pay the five transactions first, and penalize only the largest check to an overdraft fee, the bank pays the $900 obligation first, then two of the debits -- and charges three overdraft fees on the others.

The Consumer Federation would like to see all banks give customers a running tally of overdraft charges for the year on their bank statements. Currently, only banks that actively promote overdraft protection must do cumulative reporting under the Truth in Savings Act. Fox says in practice, only the smaller banks provide this information, since the nation's largest institutions don't promote their overdraft services.

Fox suggests that many consumers just aren't aware of what an overdraft will cost them until they make that mistake. "Under the Truth in Lending Act, all banks are supposed to make fee information available if you go in to apply for bank account," says Fox. "When we went around to get the fee schedules and bank account agreements to update the information this year, people had a hard time getting that information. It is not as easily available as it's required to be."