Wednesday 4 November 2015

Overdraft Protection Is A Form Of Credit #FinancialLiteracy #ThingsYouNeedToKnow #FLM2015

Overdraft Protection is a Form of Credit. 

Credit made available to you, if used is debt and becomes part of your credit history.

This should be made very clear by a financial institution when offering Overdraft Protection on your account. 

I'm not talking about auto-transfers from another account that has funds available to cover a shortfall, which is also be called overdraft protection. I'm talking about approved lending to cover an overdraft up to a certain amount for a specific charge and rate of interest. 

A recent scenario: 
  • Thing 1: (young adult in grade 12) goes into his bank and is offered over-draft protection on his account which is not overdrawn, nor ever been overdrawn. This service is verbally explained to him, after which a form is produced for him to sign, He signs for and accepts this offer with the enthusiasm of a youth who is feeling very grown up to be asked and seen as an adult. He does so without paying attention to the fine print since it has already been explained, or asking questions he probably doesn't even know to ask. 
  • Thing 1 was not asked if he is a student, or employed, or told his account would changed from a student account to a regular account, thereby changing the fee structure of his account. He was not told this is a form of credit and as such would reflect on his credit rating and credit history.
  • As a result overdraft protection of $300 is placed on his account, and it appears his student account is at this time switched to a regular account with all the service charges that go with that account. 
  • In the past Thing 1's Debt Card transaction were declined if there were insufficient funds, but this is no longer the case and the account is overdrawn. Additionally there is an overdraft fee of $5 a day (according to the bank employee) which has been charged until we realize he is more than $200 overdrawn. 
  • Thing 1 goes into the bank and uses his birthday money (his only source of income) to pay off his overdraft, and has this account switched back to a student account. 
  • When Thing 1 goes to remove the overdraft protection he is told by the bank employee serving him if he takes off the overdraft protection, since he had an overdraft it will show and reflect poorly on his credit history. Overdraft protection is removed anyways.

We have raised our kids to be financially literate and make good choices about money. Their bank accounts were opened and their allowance auto-deposited bi-weekly like a pay-cheque specifically to help teach them about managing their money. We've clearly stated under no circumstances are they to apply for or accept credit before they are working and have a means in which to pay it off. It is not free money, it is debt, and there is a cost to debt beyond the amount of the loan. 

I acknowledge: Thing 1 is not without fault here, and this was a learning experience, and thankfully only a $200 life lesson. Thing 1 definitely should have paid attention to the details regarding overdraft protection before signing and entering into a contract AND to his account balance. 

He should have discussed it with us before signing on the dotted line, so we could explain this is a loan or form of credit. We would have asked to see a copy of what he signed, and about the charges involved, or changes to his account. We would have discussed the pros and cons of overdraft protection and when it is appropriate. We would have asked why a student with no means to pay off an overdraft needed overdraft protection. And how it would be used by someone with no auto-debits, payments or cheques written on his account: because in all other situations it is no longer protection against possible cash flow issues, but instead pre-approved authorization to spend more money than you have. 

What was the need for overdraft protection?

As an ex-banker and a parent I am appalled that this happened. He didn't ask for this product, a product he had no idea existed prior to being asked if  he wanted it. I suspect the employee requires better product training or was attempting to reach product and cross-sales targets or both.

I was a personal mortgage and loans manager and I assure you I would NEVER have approved this for an unemployed high school student with no means to pay off the overdraft. Even with pressure to cross-sell and promote products (and there was lots) I never suggested or offered products that weren't a good fit for the client. The only way to actually know that is to talk to the client, never make assumptions, and ask the right questions. You need to ask and answer the questions the client doesn't even know they need to ask, because you not the client are the expert. 
That makes for a happy, long-term and loyal customer. 

Now I was not there when the overdraft protection was put on Thing 1's account, nor was I there when it was removed. To complicate things further it was put on at one branch but had to be removed at the branch where the account was opened. 

Had I been there these are some of the questions I would have asked:

  • Are there rules and policies about giving overdraft credit to someone and if so what are they? 
  • Do they normally extend credit to a high school student with no job or means to pay off that credit (even if they are 18 years of age)?
  • Is there a pamphlet given to the client when overdraft credit is put on their account explaining all the details and charges?
  • Is the client required to sign something and initial beside specific details such as the account being changed, charges for the new account, and overdraft interest and charges.
  • Is the client asked if they've ever had credit before, and the term credit fully explained.
  • Is the client told overdraft protection is a form of credit and therefore part of their credit history. If the overdraft is not paid off or stays on the account for an extended time not only will it cost a fortune but also reflect poorly on their credit rating and history. 
  • By changing the account from student to a regular account (with services charges) if the account is overdrawn due services charges does the same $5 a day overdraft fee still apply? Basically will the client end up in a vicious cycle of overdrafts due to fees causing more overdraft and so on ...?
At the end of all this I have two messages: 

Parents: talk to your kids about credit so they can avoid Thing 1's experience. You might want to include a conversation about cellphone service contracts as well.

Financial Institutions: You can do way better! I'm disappointed that instead of teaching a young adult about money management he was offered products that serve only the bank not the client. 

From a basic business stand point, you have no idea who or what he may become and this will not make him a long-term loyal customer. My husband and I have been with this same institution for 20 years (since just before Thing 1 was born) and should this bank check our portfolio it would be clear that we're clients worth keeping. You would never have pulled this nonsense on us, but in the end it was our birthday gift to our son that paid off the overdraft, so it feels personal to me. How you treat everyone, not just the "important people" matters to me, and this certainly doesn't make me want to recommend this financial institution to others. Just food for thought.

Yep, just me Cathy thinking out loud about overdrafts, credit and financial institutions. 

Note: I was not compensated for this post. The purpose of this post to merely to share my experience and information with my readers. All opinions are my own. 

1 comment :

  1. Oh dear, I'm sorry that happened to your son Cathy! Sounds like the bank definitely had their best interests in mind when signing him up for an overdraft. That's terrible they did so without properly explaining that it was credit and for not checking to see if he was employed. Hopefully they will learn from this & educate their employees!