Beating Broke

Personal Finance from the Broke Perspective

Back to a Cash Economy?

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With the recent increase in new fees at banks, and the backlash it has caused, people are starting to determine what the alternatives are.  At the moment, there are still banks and credit unions that are maintaining their current fee structure without adding anything new.  Many of those are also maintaining their “free” accounts.  But, if the Durbin Amendment remains, it may be only a matter of time before they buckle under the costs and start removing “free” accounts and adding fees.

What then?  It that happens, we might see a financial world where all debit cards have a monthly fee.  We might see more annual fees on credit cards, and higher interest on credit cards.  We might see more and more checking and savings accounts having a minimum deposit amount and/or a monthly fee.

Use Cash OnlyAs a card-carrying member of the NGPAF (Not Gonna Pay Any Fees) club, that might just make me decide that I don’t want to use any of their services anymore.  My depository institution might just have to become the coffee can in my backyard.  Seriously, though.  If all of those services become services with fees, we might see a pretty drastic increase in the usage of cash again.  Many of us don’t use cash all that much.  I know I don’t.

And what happens if we return to a cash economy?  The banks get even less transaction fees.  Their income drops because of it.  And we all see what happens when their bottom line is threatened.  More fees.  It could send the banking industry into a never ending spiral of more and more fees until the only people who still use banks are the ones who don’t feel comfortable keeping thousands of dollars in a coffee can in the backyard.

Luckily for me, I belong to a credit union that isn’t likely to add any additional fees anytime soon.  What about you?  Do you belong to a Credit Union or Bank that hasn’t added fees recently?  What if they did?  How long do you think it will be before we have to choose to either pay fees or carry cash?

photo credit: flattop341

Are Banks Getting a Bad Rap?

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As I was traveling to the Financial Blogger Conference a few weeks ago, all the news was talking about how Citi had announced that they would be charging more fees on debit cards.  In fact, there have been quite a few banks that have announced an increase in fees over the last few weeks and months.  There are very few that have free products like free checking or free savings anymore. All told, there’s a lot of anger aimed at the banks right now.  But, is it all their fault?  Or, are they getting a bad rap? Let’s examine where all of this fee increase stuff is coming from.

Durbin Amendment of the Dodd-Frank Wall Street Reform Bill

The Dodd-Frank bill did quite a bit, but the bit we want to look at is the Durbin amendment.  The Durbin amendment was an amendment added with the intention of creating some competition in debit card processing fees.  Specifically, it’s goal was to “To ensure that the fees that small businesses and other entities are charged for accepting debit cards are reasonable and proportional to the costs incurred, and to limit payment card networks from imposing anti-competitive restrictions on small businesses and other entities that accept payment cards.”

Which doesn’t really explain it all that much.  I’ll try, but no guarantees that you’ll be any less confused. (NerdWallet does a really great job of explaining it, actually.) When a credit card/debit card is used as a payment, it gets swiped through a reader.  The reader reads the data, and then sends the data along with the purchase data to a card processor.  The card processor then routes the data and purchase data to the institution that holds the account the card is attached to.  So, a Ally bank’s card and transaction would get routed to Ally bank.  The institution accepts or declines the transaction and sends that back to the card processor.  The card processor sends that on to the merchant.  For it’s (necessary) work as the middleman, the card processor charges an interchange fee.  Basically, a fee for all the routing it did.  The Durbin amendment put a cap on how much that fee could be.  The end result is that some of the larger card processors have to charge larger fees.  Fees that are paid by the banks.  The banks had two options.  They could charge the merchant a larger fee to make up for it, or they could start charging fees to the user (that’s you) and cease many of the “free” programs that were previously supported by the profit margin they were making on the cards.
The U.S. Capitol
If they had passed all of the larger fees on to the merchant, many merchants would have likely stopped taking their cards.  So, believing that the majority of users would lay down and take the extra fees and loss of “free” accounts, they passed the added fees on to the user.  Again, that means you.  What they didn’t count on was the size of the backlash they would get from the added fees.  An educated user base, that has direct access to so many public outlets like social media, is making far more out of the situation than they ever thought would happen.

Does it really mean anything?

Here’s the funny part.  (not really)  There will be a small percentage of users who will move their business to Credit Unions and online banks who are absorbing the added costs and keeping their “free” accounts without adding any additional fees.  But, the majority of users will pay the fee, complain about it, but, ultimately, do nothing.  The new fees will become normal after a year or so, and things will continue on like they were before.  Just with less “free” accounts and more fees.

You should be mad as hell!

But, not at the banks.  They are merely doing what makes the most business sense to them and trying to maintain their profit margin.  Credit Unions don’t work on a profit margin because they are not-for-profit businesses.  Online banks have a higher profit margin due to not having any physical buildings and fewer staff.  The people we should be mad at are our representatives in Washington.  There’s a bill about to be introduced in the House of Representatives that aims to repeal the Durbin Amendment.  If you feel strongly enough against the fees, you should send your state’s representatives (house and senate) a note (or make a call, email, whatever) and tell them you support the repealing of the Durbin Amendment.

Whatever you do, don’t just lay down and take the fees.  Call, email, or write your representative.  And, in the mean time, find a Bank or Credit Union that isn’t passing the added costs on to their users.  Open an account at one of them and move your business.  My personal favorites are ING Direct, Ally, and PerkStreet,  but a local Credit Union would be great too.

photo credit: kevin dooley

How Banks Make Their Money

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There’s been a lot of talk about the recent legislation that affects the interchange rate, and how that will affect the fees and rewards that we currently get from banks.  So, I thought it would be fun to take a look at how banks and credit unions make their money.  What exactly is it that gives them the revenue to pay the bills. It’s one word.  One that many of you who are investors will recognize.  Margin.

Specifically, rate margin.  A quick definition for those that aren’t up on their financial jargon.  Margin is the difference between two things.  The space (difference) between the print on the newspaper and the edge of the page?  Margin (or gutter depending on your profession).  So, when I talk about rate margin, I mean the difference in rates. Clear as mud?  Ok, some more detail then.

Blue cardIn order to lend money out to consumers, a financial institution must first have money.  They get that money by taking in deposits and by borrowing money from other institutions.  In most cases, they have to pay some sort of interest to either the depositor or the other institution.  They then take that capital, and lend it out to consumers at a higher rate.  The difference is their margin.  Let’s look at an easy example.  A bank has a simple savings account that is paying 0.25%.  They have 1,000,000 in deposits at that rate.  They then lend that money out to consumers at an average rate of 5.25%.  They have a margin of 5%.  They’ll pay $2500 in interest to the depositors and receive $52,500 in interest from the borrowers for a revenue of 50,000.

Obviously, that’s a small example.  Many banks and credit unions operate at a much higher level.  Wells Fargo, for instance, had $93,240,000,000 in gross revenue in 2010.  Not all of that is from lending interest, but a majority of it likely is.

In truth, the revenue from interchange rates is rather small as a percentage of overall revenue.  And changing it directly isn’t going to bankrupt any of the institutions.  However, there is some truth in the claims that it will likely mean the end of the rewards and cash back cards as well as some of the other perks like free checking.  Many of the institutions use that interchange revenue to pay for the rewards and cash back and to cover some of the costs of other perks.  Reducing the interchange amount means that the institution will have to drain money from other revenue streams to continue the programs, or shut those programs down.

This is where banks and credit unions will become differentiated over the next years.  Banks operate as for profit entities.  They have shareholders and owners who they must perform for and who expect them to make and increase profits each year.  They’ll be much more hesitant to drain from other sources to pay for those programs.  Credit Unions, on the other hand, are a not-for-profit entity.  They aren’t designed to make a profit.  While some may cut back on those programs, many will simply continue them.  Because they don’t have shareholders and owners that are demanding profit, they can cater to the owners of the Credit Unions, their members.

What it also may mean, is that we will have to be extra vigilant in watching our accounts for missing rewards, and for extra fees.  If pressure to keep the programs is significant enough, some of the institutions might reduce savings rates further, or increase loan rates to try and increase their margin and help pay for the continuing programs.

photo credit: MyTudut