Avoiding Overdrafts and Bounced Check Fees

A Lesson Learned
Overdrafts and bounced checks can be extremely costly, severely punishing a consumer for a simple mistake in record-keeping. I clearly remember the first time I bounced a check, and it ended up costing me so much that I've never forgotten that lesson.

I was a teenager with a part-time job, so my checking account balance was never for more than a few hundred dollars at any given time. Low balances make it especially easy to over-draw your account if you forget about even one relatively small purchase, and that's exactly what happened.

Thinking I had enough money in my account, I wrote a check for lunch in the amount of $18.00 (back in the day before debit cards were popular), and the check bounced. The restaurant sent my check to the financial institution a total of three different times for payment, and was rejected each time.

I was unaware that the check even bounced the first time, until I received a letter from my credit union notifying me that I was charged three over-draft fees for $15 each. I didn't understand how it all worked at the time, so I called them to ask how could I be charged three bounced check fees when I only wrote one bad check. They explained that the merchant may choose to re-submit the check for payment, and that I would be charged an overdraft fee every time they did it. I quickly realized that my accounting error was going to cost me, big-time.

Soon after, I received a letter from the restaurant stating that I had to pay them three returned check fees for $15 each, plus the original $18 to avoid the account going to collections and hurting my credit record. I quickly drove out to the restaurant to pay the bill, vowing to never make the same mistake again. That $18 taco meal ended up costing me $108. The tacos were good, but not that good.

That mistake cost me plenty, and that was almost twenty years ago when overdraft fees were much lower. These days, overdraft fees are in the area of $30, so a similar situation now would be double what it cost me. I still occasionally make accounting mistakes, but have never had to pay for it like I did that first time.

Avoiding Overdraft Charges
Overdrafts can be due to any type of transactions linked to your checking account, including written checks, ATM withdrawals, debit card purchases, online bill-payment, or automatic withdrawals for services or investments.

Your financial institution has the choice of whether or not to pay if there isn't enough money in your account when the transaction goes through. If they pay it, they will still charge overdraft fees for each transaction that goes through. If they don't pay it, you can be charged returned check fees or non-sufficient fund fees by the merchant, plus overdraft fees by the financial institution.

The obvious way to avoid overdrafts is to accurately record your transactions and manage your checking account responsibly. Keep good records of all purchases, withdrawals, and charges from your checking account, and keep your check register up-to-date. Don't forget about automatic payments that you have set up with a service provider or creditor for insurance premiums, loan payments, or utilities.

Be careful about relying on an ATM to find out your checking account balance. The balance statement from an ATM really tells you nothing of your available checking account funds, since it doesn't tell you which transactions have cleared. Some transactions, such as ATM withdrawals or debit card purchases may be deducted from your account immediately, but checks may take up to two weeks to clear, or even longer if the payee delays depositing the check for some reason.

Between statements, it's best to go online to check your account status if you've lost track of which transactions have cleared and aren't sure of your available funds. Keeping track of your account balance online may be especially useful for those who are a little less organized; it may virtually eliminate the need to keep your check register balanced, as long as you don't forget about the transactions you authorize so you know if some haven't yet cleared.

Be aware that your funds may not be available on the day of the deposit. Many financial institutions have a holding period for any type of out-of-state check and may even have a holding period for in-state personal checks. Understand your financial institution's policy on the availability of funds; overdrafts can be caused by the mistaken belief that funds are available before the holding period ends, even if you know the check will clear.

Courtesy Overdraft Protection
Financial institutions commonly offer this type of service to their customers, charging a flat fee of $20 to $30 for each item they cover. Most financial institutions have a limit on the maximum amount you can overdraw your account, including the fees. Some financial institutions also charge a daily fee for every day that your account balance is negative.

The main purpose of courtesy overdraft protection is to avoid the returned check fees from the merchant or service provider and keep you in good standing with the people you do business with, but it's still quite expensive. Avoid using your overdraft protection as a short-term loan, and put money back into your account as soon as possible to avoid daily fees.

Other Ways to Reduce Overdraft Fees
If you've learned that you have a hard time keeping up with your transactions and checking account balance, you may have to make some accommodations for it. We're not all super-organized, and some of us find it difficult to keep accurate records. You can still avoid overdraft fees, or at least reduce their impact on your budget.

• Keep a cushion in your checking account strictly to protect you from overdrafts. The bad part about this is that you may be short on funds one day and it will be easier to consider it fair-game if it's in your checking account. Remember to replace it as soon as you can if you do tap into the overdraft-protection cushion, so you'll still be protected in case you really do overdraw your account.

• Even better, keep the cushion in your savings account. The financial institution will automatically transfer funds from your savings to checking to cover checking overdrafts. They may charge a small transfer fee of $3 to $5 each time they transfer funds to cover an overdraft, but you'll completely avoid returned check fees from the merchant. The small fee encourages you to manage your account responsibly, but won't ruin your budget if you do make a mistake in accounting. Also, most savings accounts pay interest, so you'll benefit from keeping the cushion in that account.

• Have your checking account tied to a line-of-credit or a credit card that you have with the financial institution. Doing it this way will cost you interest fees, usually in the range of about 10% to 18% APR. But as long as you pay back the overdrawn amount fairly quickly, it really won't amount to a whole lot, much less than the overdraft fees and returned check fees.

Source:
Federal Reserve Board