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18 Dec 2018

Extortionate overdraft fees to be banned as regulator clamps down on bank borrowing

Banks will have to charge a simple interest rate and can hike prices for unplanned borrowing

Banks will be banned from charging daily or monthly overdraft fees and will no longer be able to jack up costs for people who go over their overdraft limit, in radical new proposals set down by the UK's financial watchdog.

Banks earned a staggering £2.4bn in overdraft fees last year, and the Financial ConductAuthority (FCA) has stepped in to reform bank borrowing and protect those stuck in a cycle of overdraft debt.

Banks will be forced to charge a single interest rate on overdrafts and advertise in a consistent way to make charges comparable. The FCA has stopped short, however, of placing a cap on the charges banks can levy.

This represents a significant win for consumers. Which? has been campaigning to scrap unarranged overdraft fees for a number of years, and calling for unarranged overdraft fees tobe the same as those for arranged overdrafts.

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Clampdown on overdraft charges

Research from the financial watchdog has found that the poorest are penalised by sky-high overdraft fees.Some 1.5% of consumers, typically those worst off, paid 50% of all unarranged overdraft charges in 2016.

Banks earned £2.4bn in overdraft fees in 2017, £720m of which came from unplanned borrowing. An unarranged overdraft is where you exceed your pre-agreed overdraft limit with your bank, and get hit with all manner of fees.

Around 14% of customers used an overdraft every month in 2016. These borrowed 81% of all overdraft lending and paid 69% of all arranged, unarranged, and refused payment fees, according to the FCA.

The regulator found that for unarranged overdrafts, the price regularly exceeds the equivalent of an interest rate of 10% per day and, for 15% of users, over 20% per day. Banks make 10 times more revenue from unarranged overdrafts that for arranged overdrafts and, in some cases, unarranged overdraft fees can be more than 10 times as high as fees for payday loans.

The FCA was damning of the business model banks have been using for unarranged overdrafts. It said it found little evidence or justification for the extortionate differences in price between arranged and unarranged overdrafts.

Last year, Which? published a dossier containing consumers' experiences of being in their overdraft. This included stories of people being charged hundreds of pounds for going a few pounds overdrawn. You can read the dossier in full here.

The watchdog has proposed a series of changes that will reduce the cost of overdrafts and make charges fairer. These include:

  • stopping banks and building societies from charging higher prices when customers use an unarranged overdraft
  • banning fixed fees for borrowing through an overdraft (other than fees for refusing a payment due to lack of funds)
  • ensuring the price for each overdraft will be a simple, single interest rate - no fixed daily or monthly charges
  • requiring firms to advertise arranged overdraft prices in a standard way, including an Annual Percentage Rate (APR) to help customers compare them against other products
  • making sure that refused payment fees correspond to the costs of refusing payments
  • telling banks to do more to identify overdraft customers who are showing signs of financial strain or are in financial difficulty, and to help them to reduce their overdraft use

Which banks will be hit by the overdraft changes?

Banks and building societies charge for overdrafts in a variety of ways. Some charge a simple interest rate, others charge fixed daily or monthly fees.

Arranged overdrafts

Both Lloyds Banking Group and Santander recently reformed their overdraft charges, although just last week Lloyds increased prices for its overdraft. It charges daily fees for its overdraft, along with Santander, Barclays, Monzo and Nationwide's FlexDirect account (although the overdraft is free for the first 12 months).

NatWest and Royal Bank of Scotland charge a monthly usage fee for an arranged overdraft, as well as 19.89% EAR. TSB, Yorkshire Bank and Clydesdale Bank all charge a monthly usage fee in addition to interest.

According to Which? research, the following banks are already charging in line with the FCA's proposals:

  • First Direct (charges 0% under £250 then 15.9% EAR)
  • M&S Bank (0% under £100 then 15.9% EAR)
  • Starling Bank (15% EAR)
  • Post Office Money (15.18% EAR)
  • Nationwide FlexAccount (18.9% EAR)
  • The Co-operative Bank (18.9% EAR)

Unarranged overdrafts

TSB charges a combination of interest, monthly fees and daily fees on unplanned overdrafts - £6 a month usage fee, 19.84% EAR and £5 a day on borrowing up to £25 and £10 a day on borrowing above £25.

NatWest/Royal Bank of Scotland charge £8 a day, Santander charges £5 to £6 a day on its Everyday, Student and Graduate accounts, while Clydesdale and Yorkshire Bank charge £6 a day.

Since September 2017, all current account providers have to set a Monthly Maximum Charge (MMC) which shows the upper limit of what a customer can rack up in interest and fees for being overdrawn in their account.

The FCA's proposals should reduce charges even further, as only 1% of consumers have hit the MMC since it was introduced.

ProviderMonthly Maximum Charge (MMC) cap Type of borrowing it applies to
Lloyds Bankn/aNo unarranged overdraft charges
Halifaxn/aNo unarranged overdraft charges
Bank of Scotlandn/aNo unarranged overdraft charges
Barclays£32*Unarranged overdraft charges
Nationwide£50Unarranged overdraft charges
Tesco Bank£75Unarranged overdraft charges
HSBC£80Unarranged overdraft charges

*£67 for Personal Current Account Customers with Emergency Borrowing

When will the overdraft changes come into force?

The FCA's proposals will now be consulted on. Banks and consumer groups like Which? will have until 18 March 2019 to respond. The changes will be implemented by December 2019.

What other overdraft changes have been proposed?

The FCA is also taking action to tackle low levels of awareness and engagement with overdrafts so that consumers can better understand them and discover where they will get a better deal.

  • Under new proposals, current account providers will have to:
  • Provide online, or within a banking app, tools that indicate eligibility for overdrafts.
  • Improve the visibility and content of key general information about overdrafts and clearly present overdrafts as a form of debt.
  • Provide a calculator to allow customers to check the costs of overdrafts for different patterns of use.
  • Automatically enrol their customers into a set of overdraft alerts to address unexpected overdraft use. These alerts will generally be text message or banking app push notification alerts warning consumers of overdraft use that may result in charges.
  • Remove any available overdraft from the description of a customer's available funds.