With the new regulatory changes, banks are scrambling to protect their overdraft revenue and to find replacement income for any of it they may lose. Consultants are offering a variety of ideas-including resurrecting regular service charges-but most share a common assumption: Many frequent overdraft customers will be unprofitable without these fees.

Before changing products and pricing, however, bankers would be wise to make sure they understand the true profitability of these customers. There will also be an opportunity to grab market share when competitors, especially the big banks, abandon free checking.

What do high-frequency overdraft customers really look like? The customers at issue are the 5 percent that account for 65 percent of overdrafts. They have six to eight overdrafts every month, on average, and are nearly twice as likely to be active debit card users. With about half of overdrafts occurring at the point of sale, these customers could face a situation almost every week where a purchase would be declined if they do not opt in.

Our prediction, supported by the early experiences of our clients, is that many of them will choose to have overdraft protection and pay the fees when this downside is properly explained. Our data indicates that, contrary to the findings of other studies, they value the service and can afford the fees.

Other studies of these customers have used either census tract data or appended demographics. There are problems with both. Census data does not look at the individual households and the appended data can be way off. As a test, we appended household income from two different well-known sources. We saw many differences in income between these two sources for the same households, sometimes as high as $100,000.

So, we looked at actual deposit behavior. The frequent overdraft customer has an average balance of only a few hundred dollars. This, however, is simply because they go below zero so often. They actually deposit much more often and much more in total dollars than any other customer segment. This suggests that those who do opt out will have higher balances than they happen to have now. It also is evidence that these customers may not be as low-income as they have been portrayed.

Another important trend is that for some very coveted behaviors-like direct deposit and bill pay-the frequent overdraft customer is also attractive. The use of these products and services results in customers staying with a particular institution longer and reduces the frequency of chargeoffs. These are the ideal customers in terms of using products and delivery channels that banks like.

The last piece of the puzzle is to look at other products that these customers buy. We found the cross-sell ratios very comparable to the average customer household. They also had just over $8,000 in total household deposits.

This is very different from the picture that has been painted by the media of low-income households that are being taken advantage of by banks. It is also very different from the story told by many industry consultants of customers who will become unprofitable once overdraft income is reduced.

So what does all this mean in the new regulatory environment? Overdraft revenue will take a hit, but not as big as some predict. Many portray overdraft programs as predatory based on anecdotal horror stories from a few big-bank customers. For the customers driving this revenue stream, however, it is a valuable service. They will soon get a chance to cast their votes.

How big banks respond to a reduction in overdraft income, however, may be very different than community banks. Big banks, driven by earnings pressure, will impose service charges to make up lost fees. Some already have.

For them, the economics of eliminating free checking might make sense. Big banks have 4,000 checking accounts per branch versus 1,000 at community banks. They can afford to lose many customers to gain regular service charges from those who stay, whether because of inertia or because of the huge advantage the big banks have in convenience.

This will present an opportunity for community banks. If they keep offering products customers want-like free checking-and resist the urge to copy the big banks' fee strategies, they can pick up market share. They will have the opportunity to capture many customers that have been perceived incorrectly as unprofitable, as well as many others who will be angry that they are suddenly faced with service charges or complicated products.

With four times the customers as community banks, big banks have a different cost and revenue structure. Community bankers should evaluate carefully before following their lead.

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