Debit Card Deceits: When Zero Isn't The Floor

Debit cards have become a popular alternative to credit cards because they have many of the conveniences of credit cards without actual debt. I have come to rely more and more on my debit card because I don't have to carry a checkbook and hold up checkout lines with identification hassles every time I write a check. I simply swipe the card and go on my way. Money is deducted directly from my checking account, just as if I wrote a check. Once I deplete my checking account balance, the card stays in my wallet until the next payday. It appears to be a full proof system for staying out of debt.

However, appearances can be deceiving because the belief that you can't get into debt using a debit card is based on a false assumption. Account holders naturally assume that once the balance is zero, transactions will be declined. The reality is banks will process the transaction even if the money is not in the account and then assess hefty overdraft fees. The account holder becomes liable for the purchase, the overdraft fee, and any additional fees that the bank dreams up.

My teenage daughter had a recent run-in with debit card fees. She does not have a credit card, but she has a checking account at M &T Bank with a debit/ATM card, and a job with direct deposit for her paychecks. Like many consumers, she believed that a debit card protected her from ever spending more than the balance in her account. However, a couple of small purchases during a night out with friends unleashed a cascading series of bank charges put the balance on her account hopelessly below zero.

At a local eatery she bought a sandwich for $8 and then moved across the street to the local coffee shop where she made a $4 purchase. She thought her checking account balance was low, but each transaction on her debit card was approved. What she didn't realize is that because she did not have the money to cover either purchase, each transaction triggered a $35 overdraft fee. Checking her account online the next day, revealed that she was now more than $70 below zero. She thought the problem would be solved in a few days when her paycheck for $90 would be posted.

However, that was another false assumption. M&T's fee structure imposed a $10 charge everyday that the account remained below zero. By the time the $90 arrived she was more than $100 in the red and counting. Her paycheck vanished and the $10 daily charges continued. The next $90 paycheck would be in two weeks. It had become mathematically impossible for her get out of debt.

After learning all this, I understand why payday loan operations continue to thrive despite their exorbitant fees. In some circumstances, a payday loan is a much better deal compared to a bank. For low-income people with small balances, a simple math error made while shopping can cause unrecoverable financial harm if a bank is involved.

Because my daughter wanted to be responsible for her own finances, she avoided telling me what was happening. I found out by accident, when coincidentally, another problem occurred with her account that prompted the bank to call, and I answered the phone. Someone had obtained access to her debit card number and was making fraudulent purchases. These transactions, totaling hundreds of dollars for purchases in places outside the United States, had not been declined either. But the bank's monitoring systems had flagged them as suspicious and called to verify their authenticity.

We had to visit the bank and fill out paperwork certifying that the transactions were indeed fraudulent so that the charges could be reversed. By the time we arrived, the fraudulent purchases, multiple overdraft fees, and daily charges had resulted in a checking account balance that was close to $1500 below zero.

I asked the M&T bank manager: "At what point does the balance get so far below zero that transactions are declined?" Interestingly, he did not have an exact answer to that question. He indicated that there are limits, but that the limits are not hard and fast. From his point-of-view, the bank was doing a favor by allowing purchases to go through even if no money was in the account to cover them. Of course, it is an unasked favor, for which the bank is charging fees that are often far greater than the purchase amounts in question.

On reflection, I found the bank's priorities deeply unsettling. After all, M&T had asked us to come in, but it was the suspicious pattern of activity that triggered the phone call, not the negative balance. A $4 purchase at a local coffee shop that resulted in hundreds of dollars in fees is part of the bank's business model. A $300 purchase for tickets to a Canadian amusement park that my daughter couldn't possibly have made, is a threat to the bank's business model. The latter event triggered a phone call from the bank; the former event did not concern them. The bank had no moral qualms about appropriating my daughter's entire paycheck for a $4 coffee purchase, but acted outraged by someone taking money from the bank.

After reversing all the fraud, we still had the negative balanced caused by the fees associated with the legitimate purchases. I managed to negotiate reversals for all but the first overdraft fee. That restored her account balance to a positive number and eliminated the daily $10 charges.

However, I found agreeing to even one overdraft fee a distasteful compromise given that my daughter never agreed to overdraft protection in the first place. In fact, not only do banks provide an expensive service that is not always wanted, but they also deceive customers further by re-ordering transactions to maximize fees. Suppose you went shopping with $100 in your account and made purchases of $4, $6, $8, and $102 in that order. You might think that the $102 purchase at the end would trigger a $35 overdraft fee because you had a large enough balance to cover the first three purchases. But, at the end of the day the bank would assess $140 in fees by re-ordering the purchases. It would process the largest purchase first as an overdraft, followed by the other three small purchases all as overdrafts.

These practices might be changing because Congress is debating new legislation that would require banks to get your permission before setting up your account with expensive overdraft protection. Consumers are also fighting back. Eileen Ambrose reported in The Baltimore Sun that Maxine Given of Baltimore County, sued M&T Bank, claiming the bank's overdraft program violates Maryland's consumer protection laws. And, as Bob Sullivan reported in his Red Tape Chronicles, consumers are leveraging the power of social media online to publicly embarrass and shame the shady practices of many banks. Let's hope Congress gets the message and enacts meaningful consumer protections.

Joseph Ganem is a physicist and author of the award-winning The Two Headed Quarter: How to See Through Deceptive Numbers and Save Money on Everything You Buy

Debit or Credit?

As I finished my Christmas shopping this past week, the “debit or credit” question at checkout is annoying me more than the longer-running “paper or plastic” inquiry. While I miss paper bags when it comes to carrying goods, I do not miss writing checks for payment at the cash register. Swiping my plastic check card is quicker and easier. But for some bizarre reason two alternative methods for processing the same transaction have evolved. In each case money is deducted from my checking account to pay the merchant. However, whether I say credit or debit, or more precisely whether I choose to identify myself with my signature or my PIN number makes a big difference on who pays the cost of the transaction and the risks I take as a consumer.

If I choose debit, the transaction proceeds much like taking cash from an ATM machine. A PIN number is required and after entry funds for the purchase are debited from my checking account along with an additional fee to pay for the transaction. It is not as costly as using a remote ATM, but it is not free. My bank charges me $0.50 for each transaction and that adds up quickly. If I make purchases at three or four different stores it would be cheaper for me to just go to the ATM and get the cash. It would all come out of the same checking account. After all, I’m not using actual credit.

If I choose “credit” the money also comes out of the same checking account, but a different set of rules apply. This is what I find so weird. I no longer pay the transaction fee because no electronic funds transfer takes place. Instead the Visa credit card network takes over and the merchant is hit up for the usual 2% to 3% of the purchase price even though no credit is extended. However, I have the protection of using a credit card meaning I can dispute charges and there are limits on my liability for fraud. In contrast, I have no protection for unauthorized PIN transactions. If someone obtains my PIN and check card numbers that person could drain my entire checking account and I would have little leverage for recovering the loss.

There is little reason for me to ever make a debit transaction at checkout. It is costly and risky to use my card in that mode. Naturally the store wants me to use debit because it is cheaper and safer for them. As a result all the machines are set up to prompt for a PIN number. To use credit I need to hit the nonsensical “cancel” button to move on to the credit option. No matter how many times I do this I still get confused by this step. The concept of “canceling” my purchase so that I can complete it just doesn’t sink in.

So are there ever any reasons to choose debit? Actually consumers who choose credit for gas, hotel, or rental car purchases could be in for a nasty surprise if their checking account balance is too low. The reason is that merchants selling open-ended purchases such as these typically place “holds” on the account for much more than the purchase price and these holds can last for days.

For example, suppose you intend to buy $25 of gas and swipe your visa check card. The computer doesn’t know your intention so it might automatically request an authorization for $50 to make sure you have the funds to fill up a large tank. In your checking account $50 is immediately set aside. You drive away with your $25 purchase, but the $50 set aside stays for several days. Over that time you could easily be writing bad checks because you keep account of your actual balance. Your bank has a different number—the “available balance”—that is less because of the funds set aside for the credit authorization.

You the consumer have no idea what number represents the “available balance” but you will be paying hefty bounced check fees if you overdraw on it. It’s all perfectly legal and just another excuse banks have for soaking consumers.

Joseph Ganem is a physicist and author of the award-winning The Two Headed Quarter: How to See Through Deceptive Numbers and Save Money on Everything You Buy