New bank overdraft regulations that went into effect August 15, 2010 may cost banks billions in lost revenue according to guess who: major banks. Research firm Moebs Services estimates overdraft brought banks $37.1 billion last year, as reported in The Washington Post.

The new rules may help small businesses that are dealing with tight cash flow and were slapped with huge fines. Here are how the rules were before the new regulation:
Let’s assume your bank account shows you have a few hundred dollars in your account. You buy a cup of coffee, you buy stamps, you maybe have lunch. You paid for all of those with your debit card.

A few days later you discover you are overdrawn by hundreds of dollars. How could that possibly happen when you had a few hundred dollars in your account? Quite simply,  banks decide which withdrawals they post first. Let’s assume a check you gave a month ago was just now posted into your account, or a recurring automatic payment you forgot about went through.

Regardless of the dates, the bank posted your big check first. That brought your balance to zero. All the other withdrawals, small as they may be, now appear after it. Instead of paying overdraft on one big withdrawal, you now pay for all the small ones – with a fine. The cup of latte for which you paid $3, has now a fine of $37. A few of those and now you owe the bank hundreds of dollars.

This was one of the ways the banks made a lot of money with an unfair but legal practice, and that is one of the problems the Dodd-Frank Wall Street Reform and Consumer Protection Act addresses.

According to the new rules, the banks have to give their customer the option to enroll in overdraft protection or opt out. But many economists fear the new rules are not spelled clear enough, so here they are:

The customer can decide if he enrolls in the program and has the bank honor all of his debit card withdrawals regardless of whether there’s money in the account. Overdraft charges will be accompanied with a fine. If the customer opts out,  banks will not honor debit card payments when there’s not enough money in the account to cover them.

The FDIC admits the complaints about overdraft abuse doubled from 2008 to 2009, prompting the agency to write guidelines that include small banks as well. They say the banks have to limit the number of times an overdraft accrues by limiting the dollar amount or the number of times the fee can be slapped, a provision that is not included in the bill, and they call to review the order in which bank post the withdrawals.

What worried bank critics is the idea that the bank will now look for other inventive ways to make up for their lost revenues. Legislation takes years and until the public catches up with the bank shenanigans, the customers lose.

Image thanks to http://www.flickr.com/photos/7578081@N07/2585039824/