# O

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| ## Comptroller of the Currency                                        |
|                                                                       |
| > Administrator of National Banks                                     |
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Washington, DC 20219

###### Interpretive Letter #914

August 3, 2001 **September 2001**

###### 15 USC 1691

**12 CFR 215**

**12 CFR 226**

**SBJ CONS**

Subject: **\[ *3^rd^ Party* \]**

**\[ *Program* \]**

Dear **\[ \]**:

This letter responds to your correspondence with Brenda Curry, District
Counsel of our

Southeastern District Office, which was referred to our Washington
Headquarters office. You had formally requested a program
evaluation/comfort letter in connection with ***\[an overdraft
protection program\]*** (Program) offered by **\[ *3^rd^ Party* \]**.

We have reviewed the materials that were submitted along with your
letter, and we are unable to provide such a letter. In our view, the
Program presents a number of concerns, which we summarize below.

#### Compliance Issues

####  Truth in Lending/Regulation Z

An overdraft would be "credit," as defined by the Truth in Lending Act
and Regulation Z. 15 U.S.C. § 1602(e). The key issue under Regulation Z,
however, is whether the fee charged in connection with the overdraft is
a "finance charge." The answer would depend on:

-   Whether a nonsufficient funds (NSF) fee charged by the bank is the
    same whether the NSF check is paid or returned; and

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-   Whether there is an agreement between the bank and the accountholder
    pursuant to which the bank will pay the accountholder's NSF checks
    and impose a fee for doing so.

*See* 12 C.F.R. §§ 226.4(b)(2) and (c)(3).

If the fee were determined to be a finance charge, the bank would have
to make the disclosures required in Regulation Z for open-end credit.
*See, e.g.,* 12 C.F.R. §§ 226.5 and 226.6.

**Truth in Savings/Regulation DD**

Certain fees must be disclosed in connection with a deposit account. At
the time an account is opened, the disclosures must include the amount
of any fee that may be imposed in connection with the account (or an
explanation of how the fee will be determined) and the conditions under
which the fee may be imposed. 12 C.F.R. §  230.4(b)(4).

If the Program were added to an already existing deposit account,
advance notice to the accountholder may be required. A bank must give
advance notice (at least 30 days before the change) to affected
customers of any change in a term that was required to be disclosed
under § 230.4(b) (which includes fees imposed in connection with the
account) if the change may reduce the annual percentage yield or
adversely affect the consumer. 12 C.F.R. § 230.5(a)(1).

**Electronic Fund Transfer Act/Regulation E**

In connection with the ***\[ \]*** Repayment Agreement, the customer is
urged to repay the amount of the unpaid overdraft over time through
preauthorized transfers from his/her checking account. A participating
bank would need to comply with the Regulation E requirements for
preauthorized transfers. 12 C.F.R. § 205.10(b).

**Equal Credit Opportunity Act/Regulation B**

An "overdraft" would be "credit" under Regulation B. *See* 12 C.F.R. § 
202.2(e). A memorandum from ***\[ A \]*** of ***\[ 3^rd^ Party \]*** to
***\[ B \]***, dated June 10, 2000, provided criteria for selecting
"ineligible (excluded) accounts," i.e., those accounts that are not
eligible for the Program. Among those accounts are: "Accounts which, *in
reviewing officer's judgment,* should *not receive* the automated
overdraft payment service, such as (See sample memo): Not creditworthy
or questionable financial condition." (Emphasis in original.)[^1]

The materials do not appear to provide any indication of standards for
the reviewing officer's determination. When a decision is left to bank
personnel's discretion, there may be a potential for disparate treatment
in violation of ECOA and Regulation B. *See* 12 C.F.R. §  202.4.

**Federal Trade Commission Act**

The Federal Trade Commission Act prohibits deceptive acts or practices,
including representations or omissions that are likely to mislead
reasonable consumers and, thus, affect a consumer's choice or conduct
regarding a product. *See* 15 U.S.C. § 45(a)(1) and the FTC Policy
Statement on Deception (October 14, 1983).

The marketing materials for the Program send a mixed message as to
whether the bank is committing to pay overdrafts as long as the account
meets the stated qualifications for the Program and also raise numerous
ambiguities about or overstate the benefits of the Program:

-   In a number of places the materials make such statements as "we
    *will* pay your checks \... if you maintain your account in good
    standing." The back of the marketing materials, however, states that
    "we may refuse to pay an overdraft for you" and that this is being
    done as a "non-contractual courtesy." [^2]

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-   The materials give the wrong impression about the scope of the
    protection offered by the program and oversell its benefits. Claims
    of "no more charges from retailers for insufficient checks," "make a
    mistake \-- you're covered," and "write a check or use an ATM for
    more than you have in the bank \-- you're covered" are broad
    statements given the limitations placed on the program.

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-   The materials may leave the customer with the wrong impression about
    what the actual overdraft limits are. For instance, with respect to
    an account to which a \$500 limit is applicable, the bank would not,
    under the program, pay an overdraft that exceeded \$480 because the
    \$20 NSF fee, would cause the overdraft to exceed the \$500
    limit.[^3]

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-   The requirement that the account need only be brought to a positive
    balance once every 30 days also may be illusory. We note that the
    materials provide that "The amount of any overdrafts plus our
    Non-Sufficient Funds and/or Overdraft (NSF/OD) Charge(s) that you
    owe us shall be due and payable upon demand."[^4]

**Regulation O**

Overdrafts are considered extensions of credit for purposes of
Regulation O. 12 C.F.R. § 215.3(a)(2). If, as some of the materials
appear to indicate, a bank also makes this product available to certain
bank insiders, issues would appear to arise under Regulation O governing
extensions of credit to bank insiders.

#### 

**Supervisory Concerns**

Your characterization of the product as something other than lending
raises supervisory issues:

-   It is possible that overdrafts would be paid for customers who would
    not qualify for loans under the prudent underwriting standards that
    the bank should use for all of its extensions of credit. This could
    increase a bank's credit risk profile (e.g., higher delinquency and
    loss rates) by extending credit to borrowers that may not have
    normally qualified for payment of overdrafts or overdraft
    protection;

-   

-   Given the loss history of bank overdraft programs, bank management
    must develop reasonable loss recognition guidelines and establish
    loan loss reserve methodologies to ensure timely loss recognition
    and estimated loss coverage.

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-   Although the submitted material indicates a measuring and monitoring
    process (infers MIS reporting), it is unclear what this entails,
    including the types and quality of information provided to a bank to
    assess credit risk performance on a periodic basis. Banks must have
    appropriate MIS reporting established.

Banks also need to take great care in entering into contracts with third
party vendors.[^5] This raises a variety of supervisory concerns that
banks should address before entering into an arrangement with a vendor
in connection with the potential purchase of products including:

-   Most banks have software already capable of overdraft protection
    without incurring the high up-front and ongoing costs of the
    Program. Consequently, the benefits of the Program are not readily
    evident, in that a bank could otherwise achieve the same results if
    it implemented and marketed its existing capabilities;

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-   It appears that the arrangement a bank enters with the vendor to
    participate in the Program is devised in such a manner that only the
    bank is subject to the credit and reputation risk, while the vendor
    shares the benefits, i.e., the income;

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-   Banks are expected to conduct due diligence reviews of vendors. This
    includes initial and ongoing reviews of the financial information of
    any vendor. These reviews are necessary to ensure that the company
    can fulfill the representations as outlined in the contract.
    Requirements for the timing and quality of financial information
    should be set forth in the contract;

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-   The sample contract indicates a termination clause that appears to
    prohibit or severely restrict the contracting bank's ability to
    terminate once the program is initiated. Only the vendor has control
    of termination, and the only termination consideration is if the
    150% fee income profitability goal is not achieved. This one-sided
    termination clause is potentially detrimental for the bank from a
    reputation, financial, and strategic risk perspective. Under the
    contract, the bank has no recourse if it becomes dissatisfied for a
    variety of reasons such as customer satisfaction/bank reputation and
    credit risk issues (e.g., 50% of the customers complain or 15%
    delinquency rate).

**Policy Issues**

The Program is designed to increase fee income by encouraging customers
to write NSF checks. Although the Program may be valuable to customers
who might inadvertently or infrequently write an NSF check, banks
participating in the Program will, in essence, attempt to entice their
customers to write NSF checks more frequently and on purpose in order to
generate fee income. *This use of the Program could promote poor fiscal
responsibility on the part of some consumers*.[^6]

In this regard, we note the complete lack of consumer safeguards built
into the program:

-   in some circumstances the charges assessed on customers may be just
    as burdensome as those imposed on borrowers utilizing other types of
    high interest rate credit;[^7]

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-   an unlimited number of overdraft charges could be levied during a
    30-day period as long as the consumer does not exceed the dollar
    amount limitation on overdrafts;

-   no cooling off period following the repayment of overdraft amounts
    during which no overdrafts would be paid, thus increasing the
    likelihood that a customer would consciously resort to use of this
    product to pay for ordinary day-to-day expenses;

-   no grace period (for instance, 24 hours) during which the customer
    can reimburse the bank without incurring the NSF charge after
    receiving notice that a check was paid;

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-   no effort by banks offering this program to identify customers who
    are writing overdraft checks regularly as a means of meeting regular
    obligations in order to attempt to serve their needs through more
    economical alternatives; and

-   no effort by banks offering the program to inform customers
    generally of available alternatives for short-term consumer
    borrowing, explain to customers the costs and advantages of various
    alternatives to the program, or identify for customers the risks and
    problems in relying on this product and the consequences of abuse.

Thank you for the opportunity to evaluate the Program. We hope that this
information is useful to you.

Sincerely,

**-signed-**

Daniel P. Stipano

Deputy Chief Counsel

[^1]: Elsewhere the materials provide that the management component of
    the program "involves the Operations person making judgments on when
    to pay over the specified limit, when to restrict or otherwise
    curtail the privilege, when to charge off delinquent accounts."

[^2]: Other materials also introduce language that could be construed as
    providing a basis for the bank to not pay overdrafts despite
    representations otherwise. Marketing materials state that if an
    account is in good standing, the bank will "*normally*" pay
    overdrafts up to the stated limits. At another point in the
    materials, it states that if the account is in good standing we will
    approve your "*reasonable"* overdrafts. Elsewhere, the materials
    refer to the program as a "non-contractual customer courtesy that
    can be withdrawn at any time." In addition, the requirement of a
    positive balance at least once every 30 days is, at some places,
    stated as the "need to make regular deposits to bring the account to
    a positive balance at least once every 30 days." It is unclear if
    this is one test or two -- in other words, even if the account is
    brought to a positive balance in 30 days, can the overdraft feature
    be terminated if the bank did not consider "regular deposits" to
    have been made and, if so, what constitutes the making of "regular
    deposits."

[^3]: The marketing materials address this but only in a rather oblique
    way:

    > ***\[ Program \]***adds a pre-approved \$500 overdraft limit to
    > your personal checking account. If you overdraw your account, Bank
    > will cover each check up to \$500 limit. You still pay Bank's
    > standard overdraft fee for each item returned, but the benefits
    > are worth it.

    This representation nowhere alerts the customer that Bank will not,
    under the program, pay a check in an amount between \$480 and \$500
    or pay, for instance, five overdraft checks in an amount between
    \$400 and \$500. Where the disclosure about the relationship between
    fees and the overdraft limit is made, it is set forth in an unduly
    complicated manner: "\... we will normally honor (pay) your
    overdrafts up to the limits mentioned above, including our normal
    Non-Sufficient Funds (NSF) Charge(s)." It is not readily apparent
    that this disclosure would alert a customer that the overdraft fees
    are deducted from the overdraft limit.

[^4]: This lack of forthrightness in dealing with customers also is
    demonstrated by a sample letter, advising a consumer that s/he has
    just a few days to bring his/her checking account to a positive
    balance, which indicates that the customer *may* qualify for the
    ***\[ \]*** Repayment Plan; but a follow-up letter sent when the
    customer fails to bring the account to a positive balance within the
    time period advises the customer that s/he has been "pre-approved"
    for the ***\[ \]*** Repayment Plan. Moreover, the materials
    generally indicate that a person who fails to bring the account to a
    positive balance in the allotted period will be offered the
    opportunity to repay the overdraft in equal installments spread over
    a period of from six to 12 months.

    Moreover, the integrity of the various representations are also
    called into question by the following typed notation on one aspect
    of the disclosures:

    > **\[NOTE REGARDING POSITION OF FREE CHECKING:** Position the
    > disclosure somewhere in the middle of the checking account
    > disclosures to avoid calling unnecessary attention to the Free
    > Checking account.\]

[^5]: *See* OCC Advisory Letter No. 2000-9, "Third-Party Risk" (August
    29, 2000).

[^6]: The materials are contradictory with respect to a bank's
    expectations about the use that its customers will make of the
    program. On the one hand, a sample letter states that the program
    "is not an invitation to overdraw your account, it is an added layer
    of protection should you accidentally write checks for more than you
    have in the bank." On the other hand, marketing materials state:
    "Once you \[the bank\] and ***\[ 3^rd^ party \]*** install and
    implement the process, a phenomenon occurs. Your customers will use
    it and use it and use it \... and your NSF income will soar." At
    another point, the marketing materials advise the customer: "This
    ***\[overdraft privilege\]*** is extended to you to provide
    additional flexibility and convenience in managing your funds . . .
    ." It belies logic to conclude that the customers will
    *accidentally* "use it and use it and use it" and that the program
    is designed to provide accidental "additional flexibility and
    convenience" to customers in managing their funds.

[^7]: For instance, a customer with a \$500 overdraft limit who writes
    seven NSF checks in a month for a total overdraft of \$360 would be
    assessed \$140. We note, too, the observation in the materials with
    respect to the ***\[repayment\]*** program that "the customer will
    be encouraged to come in, acknowledge the OD amount (a large portion
    of which will now be fees), and set up a payment plan."