Why Our Credit Union Has Wrestled With Realities Of 'Courtesy Pay'

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As credit unions seek new and innovative ways to serve members, we often look to other players in the financial services arena for ideas. One such service that banks have provided throughout the years for their prime customers is called Privilege Pay.

This product is also known as courtesy pay or overdraft privilege and is typically implemented as a non-contractual courtesy pay product meant to step in and pay rather than return non-sufficient funds transactions on checking accounts.

Most credit unions that offer a privilege pay product charge fees similar to their fee for returning items. Idealistically, this product is offered to save members the embarrassment of a returned check as well as fees generated by the merchant to whom the check was written.

The program also carries the potential for significant revenue generation for the credit union. At first glance, it seems like a sure winner for both the member and the credit union.

Our credit union implemented a privilege pay product a few months ago and my board, and I asked for a report after the first 90 days.

We asked to see who was using the product, how many times per month, average amount of draft that triggers the product's use, average age of user, and whether or not they were chronic overdrafters before the product was introduced.

The results were alarming.

Instead of Privilege Pay being used as we had intended, a number of our members chose to utilize the product more as a non-qualifying line of credit.

Our research revealed that users are often negative for two or more deposits to their account before it is brought to a positive balance again. It was also learned that younger, possibly less-established members were frequent users. In fact, nearly 33% of Privilege Pay users were overdrawing more than five times per month.

And we also learned that if these same members were applying for an unsecured loan of that same amount, they probably wouldn't qualify.

Fees Add Up Quickly

For a member who lives payday to payday, these fees add up quickly. A member who chronically abuses his checking account is likely to abuse this new product, as well. Once they've maxed out at a negative $1,000, which is our limit, the next paycheck is automatically spent once deposited, thereby creating a downward spiral for the member. In this case, we are no longer offering value and a better deal to the member-we're adding to his problems.

Our senior management team and I have had lively discussions over whether or not the credit union is at fault here. Are we our brothers' keeper, they ask? Any product the credit union offers is subject to abuse if a member is irresponsible. Why is it our fault? Members know if they're overspending-writing checks and trying to play the float (which very soon will be a thing of the past). Why shouldn't we provide the service of paying that check rather than returning it? The fee is the same either way. Aren't we providing better service by paying the check and saving the member from embarrassment and additional fees on the other end? My CFO also likes the income. Enough said.

We also had several counter-arguments. Even though the product, in theory, is a great service to offer to members, it also is a product that aids and abets the weak, irresponsible members. The fact is, a fourth of our users of this product are under the age of 25.

My guess is that many of those young people are sailors and soldiers that are in our military field of membership. Most are on modest budgets and have quickly begun to use this product abusively.

Once they're in the negative, each subsequent day's clearings cause additional fees. These fees are the norm for NSF transactions. But if translated to an APR, would put us right up there with every payday loan company I've been badmouthing through the years.

As the negative balance grows, this causes a dependency on the product, similar to the "rolling" of a payday loan. While technically this is not a loan, the cost to the member is the same, whether you call it a privilege pay fee or a finance charge. Either name means money out of the member's pocket.

We can argue the fine points all day long, but I always cut back to the member and whether or not we're helping or hindering them. I believe we have a social responsibility to be the consumer's advocate.

We should always offer the better deal. I've believed that for 30 years

To be fair, however, I should also confess that we have had members occasionally call and thank us for having this service. It can work exactly the way it was meant to work.

Therefore, unlike my friend from North Carolina, I would rather not throw the baby out with the bath water. Rather than do away with the Privilege Pay product, I asked my staff for some recommendations to control the losses and abuse. These are the modifications to Privilege Pay that we're making and I would suggest that you might want to consider.

* We decided to continue the practice of liberally refunding fees while educating members about the service. We also offered an opt-out for members who felt they didn't need it or might be tempted to use it too much. The fee income for this product has been substantial so refunding fees is an easy fix and a practice that's been well received by members. Informed and educated members will know how to use the service properly rather than abusively.

* Part of that education consists of explaining to members how the clearing process works: Share transfer first, Line of Credit overdraft loan next, and Privilege Pay last. And we push the LOC loan instead of marketing the Privilege Pay product. We also assess only one fee per day's clearings, per type of clearing. In other words, no matter how many checks are presented for payment in a given day, we only charge one fee. And no matter how many debit items are presented, we only charge one fee.

* We suspend the product for members who don't cure the negative balance within 45 days. This controls further abuse and fees being assessed, which causes the downward spiral for the member.

* Once a member has overdrawn his account and used the Privilege Pay product, our notice automatically includes contact information about Balance, which is a toll-free financial counseling service that we provide at no charge for all members.

* We lowered our negative balance limit from $1000 to $750, since the average amount of an item that triggers Privilege Pay is less than $100.

* We reduced our charge for NSFs as well as Privilege Pay fees for all checking accounts.

* We are researching the ability to warn members at the ATM if they are about to trigger a Privilege Pay fee. We also made sure that the negative balance allowed does not show up as available funds at the ATM.

* We changed our screening practices to be sure that accounts had been opened for at least 90 days and were making deposits equal to or greater than the Privilege Pay limit of $750.

* We are frequently publishing Q&A segments on our website and in our newsletters to address Privilege Pay questions.

Conduct Your Own Analysis

If I were to summarize the lessons we've learned along the way, I would suggest that you might want to conduct your own analysis of the product if you haven't done that lately. You might be surprised at who the users are and how they might be hurt by it.

Controlling this product on the back end is essential if it's truly going to be perceived as a service and not a credit union payday loan clone.

It has often been said that perception is reality. A lot of people are watching our industry these days, because we've become a competitive force to be reckoned with. That's a good thing. But if we put out products that are beneficial to some and harmful to many, the credit union industry will ultimately pay the price-whether it was the poor irresponsible consumer's fault or not.

Mary Cunningham is president/CEO of USA Federal Credit Union, San Diego, Calif.

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