Overdraft: Payment Service or Small-Dollar Credit?
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Updated March 28, 2022
Overdraft: Payment Service or Small-Dollar Credit?
Funding Gaps in Consumer Finances
Banks generate noninterest income in a number of ways.
One of the earliest documented cases of bank overdraft
For example, a significant source of noninterest income
dates back to 1728, when a Royal Bank of Scotland
comes from collecting fees for deposit accounts services,
customer requested a cash credit to allow him to withdraw
such as maintaining a checking account, ATM withdrawals,
more money from his account than it held. Three centuries
or covering an overdraft. Fees from checking accounts have
later, technologies, such as electronic payments (e.g., debit
grown considerably in the past two decades, peaking in the
cards) and automated teller machines (ATMs), changed the
2007-2009 financial crisis. (See Figure 2.)
way consumers use funds for retail purchases, transacting
more frequently and in smaller denominations.
Figure 2. Service Charges on Deposit Accounts
Accordingly, today’s financial institutions commonly offer
U.S. Commercial Banks, 1970-2020 ($ millions)
point-of-sale overdraft services or overdraft protection in
exchange for a flat fee around $35. However, recently, a
number of larger institutions have announced revisions to
their overdraft programs, and some have even dropped the
fees associated with such products.
Although these fees can be large relative to the transaction,
alternative sources of short-term small-dollar funding, such
as payday loans, deposit advances, and installment loans,
can be costly as well. Congress has taken an interest in the
availability and cost of providing consumers funds to meet
their budget shortfalls. Legislation introduced in the 117th
Congress (H.R. 4277 and S. 2677) could impact consumer
use of overdraft programs in various ways. The policy
debate around this focuses on the trade-offs between access
Source: FDIC.
to funds and their associated costs. This In Focus examines
the evolution of bank overdraft programs and potential
Overdraft Opt-in Rule
outcomes associated with regulating them.
Financial regulators began examining overdraft practices
more closely following the financial crisis. In 2009, the
Evolution and Regulation of Overdraft
Federal Reserve published a final rule to prohibit financial
Core banking operations are built around two activities:
institutions from assessing overdraft fees on ATM and one-
accepting deposits and making loans. Banks make money
time (point-of-sale) debit card transactions without
from the interest earned on loans and from fees collected
obtaining consumer consent (opt-in). Service charges on
for providing certain services. In the mid-1980s, revenue
deposit accounts fell after 2010; however, it is unclear
from fees, known as noninterest income, generally began to
whether this was due to the rule or to improved economic
grow faster than interest income. (See Figure 1.)
and consumer financial conditions post crisis. In 2010, P.L.
111-203 (Dodd-Frank) created the Consumer Financial
Figure 1. Annual Interest and Noninterest Income
Protection Bureau (CFPB), granting it broad authority for
U.S. Commercial Banks, 1970-2020 ($ millions)
consumer protections across the financial system, including
the overdraft opt-in rule.
Overdraft Reporting
After Dodd-Frank, the CFPB began examining fees
associated with insufficient funds in bank accounts.
(Generally, this includes overdraft fees, when the purchase
is covered by the bank, or fees for a bounced check.) In
2015, the banking regulators required financial institutions
with more than $1 billion in assets to itemize revenues
earned from deposit accounts on their call reports, including
a separate line item for overdraft and insufficient funds
fees. Roughly 600 banks have met the threshold each year,
reporting $11 billion-$12 billion in fees for insufficient
funds, though that number dropped in the 2021 call report
Source: Federal Deposit Insurance Corporation (FDIC).
to around $9 billion. This likely underreports the amount of
overdraft revenue in the banking system, because credit
https://crsreports.congress.gov
Overdraft: Payment Service or Small-Dollar Credit?
unions and smaller community banks are not subject to the
different times in the past as ways to provide funds to
reporting requirement. In 2019, the CFPB estimated that
consumers outside of the traditional bank loans. Although
revenue from overdraft and insufficient funds fees could be
overdraft can be an expensive way to make small
closer to $15.5 billion for banks and credit unions.
purchases, many of the alternatives also carry relatively
high costs. Regulators must balance their mandates for
Overdraft Policy Debate
safety and soundness with their interest in maintaining
Bank regulators are responsible for ensuring the safety and
consumer protections. Currently, legislation introduced in
soundness of the banking system. Diversified revenue
the House and Senate would address the use of overdraft
streams from interest and noninterest income support the
through different policy tools, including limiting the fees
profitability of the banking system. In addition, noninterest
and frequency of overdraft charges and increasing
income has proved to be a stable source of income during
disclosure requirements for overdraft programs.
periods of economic volatility. However, there is evidence
that some consumers are not aware that they can opt-in to
Limiting Overdraft Fees
overdraft (or not) and that a small number of consumers
Some have argued that overdraft fees should be limited to a
bear a disproportionately high percentage of total overdraft
price that is reasonable and proportional to the cost of
fees. How policymakers approach overdraft may depend on
providing the overdraft. Others have argued that because
whether they view it as a service or as a form of credit.
overdraft acts as a form of credit, its fee structure should
fall in line with fee and interest rate provisions in lending
Payment Service Versus Small-Dollar Credit
laws such as the Military Lending Act (P.L. 109-364),
A 2017 Pew Charitable Trusts (Pew) survey suggests that
which caps interest and fees at an Annual Percentage Rate
almost 40 million Americans incurred an overdraft fee in
(APR) of 36%. If overdraft were priced as credit, it would
the previous 12 months. Most of those consumers
typically carry an APR of much higher than 36%. Although
experience fewer than three overdrafts per year. CFPB data
this type of limit would bring overdraft costs down, it could
show a small number of consumers pay the overwhelming
limit the options available to consumers as well. To the
majority of overdraft fees—roughly 9% of accounts
extent banks were not willing to offer overdraft at the new
comprise 79% of overdraft and insufficient funds fees—
price point, consumers may look for funding in markets
these consumers overdraft more than 10 times a year.
where APRs can exceed 36% by wide margins, such as
Overdraft frequency is correlated with negative financial
state-regulated payday loans.
conditions: for instance, those who overdraft more than 10
times a year generally have lower incomes, credit scores,
Limiting Overdraft Frequency
and available credit. However, while there are similarities
Limiting the number of overdrafts for which an institution
among accounts with more frequent overdrafts, consumers
can charge a consumer could help the small percentage of
use overdraft programs for different purposes:
bank customers who pay the majority of overdraft fees by
overdrafting several times a year. However, to the extent
Payment Service. Industry representatives like the
customers still need funds after the limit is reached, they
American Bankers Association posit that overdraft
may consider other products, such as payday loans, outside
programs serve as a payment service for cash-strapped
the banking system, or they could use installment loans or
consumers. For instance, a consumer can cover an
deposit advances if their bank offers them.
unplanned budget gap for a $35 fee, rather than have a
payment denied. Banks have also begun offering
Enhanced Disclosures
overdraft transfer services, linking a savings account or
Previous regulation sought to improve the disclosures
credit card for free or a smaller fee.
around overdraft to help consumers understand the
programs they opted into. Consumer advocates have raised
Small-Dollar Credit. Some consumers may use
concerns about whether overdraft programs are sufficiently
overdraft as a form of credit. The 2017 Pew survey also
transparent and how financial institution practices influence
showed that 32% of consumers with an overdraft said
the opt-in decision. Current legislative proposals would
they viewed the program as a way to borrow funds when
build on the existing disclosure framework by requiring
short on cash. When paired with the previously
banks to disclose coverage fees and provide notification of
mentioned data correlating frequent overdraft accounts
an account’s overdraft status. This could help consumers
with lower credit profiles, one could posit that overdraft
compare rates as they choose a financial institution.
is used as a form of credit in some circumstances.
Policy Tools and Potential Outcomes
Consumers have a number of options to cover a gap in their
Andrew P. Scott, Analyst in Financial Economics
budget. Overdraft is a product that consumers with a bank
account typically have access to. In addition, products like
IF11460
payday loans and deposit advances have been offered at
https://crsreports.congress.gov
Overdraft: Payment Service or Small-Dollar Credit?
Disclaimer
This document was prepared by the Congressional Research Service (CRS). CRS serves as nonpartisan shared staff to
congressional committees and Members of Congress. It operates solely at the behest of and under the direction of Congress.
Information in a CRS Report should not be relied upon for purposes other than public understanding of information that has
been provided by CRS to Members of Congress in connection with CRS’s institutional role. CRS Reports, as a work of the
United States Government, are not subject to copyright protection in the United States. Any CRS Report may be
reproduced and distributed in its entirety without permission from CRS. However, as a CRS Report may include
copyrighted images or material from a third party, you may need to obtain the permission of the copyright holder if you
wish to copy or otherwise use copyrighted material.
https://crsreports.congress.gov | IF11460 · VERSION 3 · UPDATED
Updated March 28, 2022
Overdraft: Payment Service or Small-Dollar Credit?
Funding Gaps in Consumer Finances
Banks generate noninterest income in a number of ways.
One of the earliest documented cases of bank overdraft
For example, a significant source of noninterest income
dates back to 1728, when a Royal Bank of Scotland
comes from collecting fees for deposit accounts services,
customer requested a cash credit to allow him to withdraw
such as maintaining a checking account, ATM withdrawals,
more money from his account than it held. Three centuries
or covering an overdraft. Fees from checking accounts have
later, technologies, such as electronic payments (e.g., debit
grown considerably in the past two decades, peaking in the
cards) and automated teller machines (ATMs), changed the
2007-2009 financial crisis. (See Figure 2.)
way consumers use funds for retail purchases, transacting
more frequently and in smaller denominations.
Figure 2. Service Charges on Deposit Accounts
Accordingly, today’s financial institutions commonly offer
U.S. Commercial Banks, 1970-2020 ($ millions)
point-of-sale overdraft services or overdraft protection in
exchange for a flat fee around $35. However, recently, a
number of larger institutions have announced revisions to
their overdraft programs, and some have even dropped the
fees associated with such products.
Although these fees can be large relative to the transaction,
alternative sources of short-term small-dollar funding, such
as payday loans, deposit advances, and installment loans,
can be costly as well. Congress has taken an interest in the
availability and cost of providing consumers funds to meet
their budget shortfalls. Legislation introduced in the 117th
Congress (H.R. 4277 and S. 2677) could impact consumer
use of overdraft programs in various ways. The policy
debate around this focuses on the trade-offs between access
Source: FDIC.
to funds and their associated costs. This In Focus examines
the evolution of bank overdraft programs and potential
Overdraft Opt-in Rule
outcomes associated with regulating them.
Financial regulators began examining overdraft practices
more closely following the financial crisis. In 2009, the
Evolution and Regulation of Overdraft
Federal Reserve published a final rule to prohibit financial
Core banking operations are built around two activities:
institutions from assessing overdraft fees on ATM and one-
accepting deposits and making loans. Banks make money
time (point-of-sale) debit card transactions without
from the interest earned on loans and from fees collected
obtaining consumer consent (opt-in). Service charges on
for providing certain services. In the mid-1980s, revenue
deposit accounts fell after 2010; however, it is unclear
from fees, known as noninterest income, generally began to
whether this was due to the rule or to improved economic
grow faster than interest income. (See Figure 1.)
and consumer financial conditions post crisis. In 2010, P.L.
111-203 (Dodd-Frank) created the Consumer Financial
Figure 1. Annual Interest and Noninterest Income
Protection Bureau (CFPB), granting it broad authority for
U.S. Commercial Banks, 1970-2020 ($ millions)
consumer protections across the financial system, including
the overdraft opt-in rule.
Overdraft Reporting
After Dodd-Frank, the CFPB began examining fees
associated with insufficient funds in bank accounts.
(Generally, this includes overdraft fees, when the purchase
is covered by the bank, or fees for a bounced check.) In
2015, the banking regulators required financial institutions
with more than $1 billion in assets to itemize revenues
earned from deposit accounts on their call reports, including
a separate line item for overdraft and insufficient funds
fees. Roughly 600 banks have met the threshold each year,
reporting $11 billion-$12 billion in fees for insufficient
funds, though that number dropped in the 2021 call report
Source: Federal Deposit Insurance Corporation (FDIC).
to around $9 billion. This likely underreports the amount of
overdraft revenue in the banking system, because credit
https://crsreports.congress.gov
Overdraft: Payment Service or Small-Dollar Credit?
unions and smaller community banks are not subject to the
different times in the past as ways to provide funds to
reporting requirement. In 2019, the CFPB estimated that
consumers outside of the traditional bank loans. Although
revenue from overdraft and insufficient funds fees could be
overdraft can be an expensive way to make small
closer to $15.5 billion for banks and credit unions.
purchases, many of the alternatives also carry relatively
high costs. Regulators must balance their mandates for
Overdraft Policy Debate
safety and soundness with their interest in maintaining
Bank regulators are responsible for ensuring the safety and
consumer protections. Currently, legislation introduced in
soundness of the banking system. Diversified revenue
the House and Senate would address the use of overdraft
streams from interest and noninterest income support the
through different policy tools, including limiting the fees
profitability of the banking system. In addition, noninterest
and frequency of overdraft charges and increasing
income has proved to be a stable source of income during
disclosure requirements for overdraft programs.
periods of economic volatility. However, there is evidence
that some consumers are not aware that they can opt-in to
Limiting Overdraft Fees
overdraft (or not) and that a small number of consumers
Some have argued that overdraft fees should be limited to a
bear a disproportionately high percentage of total overdraft
price that is reasonable and proportional to the cost of
fees. How policymakers approach overdraft may depend on
providing the overdraft. Others have argued that because
whether they view it as a service or as a form of credit.
overdraft acts as a form of credit, its fee structure should
fall in line with fee and interest rate provisions in lending
Payment Service Versus Small-Dollar Credit
laws such as the Military Lending Act (P.L. 109-364),
A 2017 Pew Charitable Trusts (Pew) survey suggests that
which caps interest and fees at an Annual Percentage Rate
almost 40 million Americans incurred an overdraft fee in
(APR) of 36%. If overdraft were priced as credit, it would
the previous 12 months. Most of those consumers
typically carry an APR of much higher than 36%. Although
experience fewer than three overdrafts per year. CFPB data
this type of limit would bring overdraft costs down, it could
show a small number of consumers pay the overwhelming
limit the options available to consumers as well. To the
majority of overdraft fees—roughly 9% of accounts
extent banks were not willing to offer overdraft at the new
comprise 79% of overdraft and insufficient funds fees—
price point, consumers may look for funding in markets
these consumers overdraft more than 10 times a year.
where APRs can exceed 36% by wide margins, such as
Overdraft frequency is correlated with negative financial
state-regulated payday loans.
conditions: for instance, those who overdraft more than 10
times a year generally have lower incomes, credit scores,
Limiting Overdraft Frequency
and available credit. However, while there are similarities
Limiting the number of overdrafts for which an institution
among accounts with more frequent overdrafts, consumers
can charge a consumer could help the small percentage of
use overdraft programs for different purposes:
bank customers who pay the majority of overdraft fees by
overdrafting several times a year. However, to the extent
Payment Service. Industry representatives like the
customers still need funds after the limit is reached, they
American Bankers Association posit that overdraft
may consider other products, such as payday loans, outside
programs serve as a payment service for cash-strapped
the banking system, or they could use installment loans or
consumers. For instance, a consumer can cover an
deposit advances if their bank offers them.
unplanned budget gap for a $35 fee, rather than have a
payment denied. Banks have also begun offering
Enhanced Disclosures
overdraft transfer services, linking a savings account or
Previous regulation sought to improve the disclosures
credit card for free or a smaller fee.
around overdraft to help consumers understand the
programs they opted into. Consumer advocates have raised
Small-Dollar Credit. Some consumers may use
concerns about whether overdraft programs are sufficiently
overdraft as a form of credit. The 2017 Pew survey also
transparent and how financial institution practices influence
showed that 32% of consumers with an overdraft said
the opt-in decision. Current legislative proposals would
they viewed the program as a way to borrow funds when
build on the existing disclosure framework by requiring
short on cash. When paired with the previously
banks to disclose coverage fees and provide notification of
mentioned data correlating frequent overdraft accounts
an account’s overdraft status. This could help consumers
with lower credit profiles, one could posit that overdraft
compare rates as they choose a financial institution.
is used as a form of credit in some circumstances.
Policy Tools and Potential Outcomes
Consumers have a number of options to cover a gap in their
Andrew P. Scott, Analyst in Financial Economics
budget. Overdraft is a product that consumers with a bank
account typically have access to. In addition, products like
IF11460
payday loans and deposit advances have been offered at
https://crsreports.congress.gov
Overdraft: Payment Service or Small-Dollar Credit?
Disclaimer
This document was prepared by the Congressional Research Service (CRS). CRS serves as nonpartisan shared staff to
congressional committees and Members of Congress. It operates solely at the behest of and under the direction of Congress.
Information in a CRS Report should not be relied upon for purposes other than public understanding of information that has
been provided by CRS to Members of Congress in connection with CRS’s institutional role. CRS Reports, as a work of the
United States Government, are not subject to copyright protection in the United States. Any CRS Report may be
reproduced and distributed in its entirety without permission from CRS. However, as a CRS Report may include
copyrighted images or material from a third party, you may need to obtain the permission of the copyright holder if you
wish to copy or otherwise use copyrighted material.
https://crsreports.congress.gov | IF11460 · VERSION 3 · UPDATED