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Consumer-friendly law takes effect July 1, but expect to pay new charges for other bank services


Bank of America is still suffering the wrath of Washington resident Philip Becnel.

More than a decade ago, when he was a student at Virginia's George Mason University, Becnel overdrew his Bank of America checking account when he bought a cup of coffee, resulting in a penalty of about $40.

Unaware that he was out of money, he kept using his debit card and getting whacked with penalties, racking up hundreds of dollars in overdraft charges.

Becnel paid the fines, closed his account and switched banks. To this day, he refuses to do business with Bank of America, even though his new bank is farther from home.

"That was kind of the final straw for me," said Becnel, now a private investigator. "The compounding of fees, it's almost criminal."

Banks have long walked a thin line on overdrafts. They are a sore point for many consumers, but the fees generate billions of dollars of revenue each year. Now the Federal Reserve has stepped in to craft new regulations aimed at preventing complaints like Becnel's.

Starting July 1, the rules will prohibit banks from automatically charging overdraft fees. Instead, consumers can decide whether they want to use an overdraft service or would rather simply have their debit cards declined. In addition, some banks have stopped charging overdraft fees if the account is a few dollars in the hole -- eliminating the infamous $40 cup of coffee -- and are capping the number of charges each day.

According to market research firm Mintel, about 25 percent of consumers it surveyed this spring indicated they would enroll in overdraft services. About 15 percent said they did not want to sign up, and the rest were either unsure or were not aware of the changes.

Banking experts and even industry groups have warned that banks will need to replace the revenue they have long collected in overdraft fees. That means people might find that the fees have disappeared, only to resurface elsewhere in the form of a maintenance fee on their checking accounts, for example.

"The whole banking system is in a state of flux," said Brian Riley, research director at TowerGroup, a market research firm.

"Consumers have to really read the fine print on this stuff and not go into the banks for the reward programs and the free toaster."

The new overdraft rules come as banks grapple with tighter regulations on credit card interest rates and penalty fees mandated by Congress last year. The financial crisis ignited a populist movement to strengthen consumer protections from Washington, and Congress continues to debate the creation of an agency devoted to the issue.

The Fed began drafting its new overdraft regulations last fall as lawmakers prepared bills with similar restrictions in case the Fed did not act.

Meanwhile, numerous banks braced themselves for what many saw as inevitable. According to a survey by research firm Moebs Services, nearly 14 percent of 2,000 bank and credit unions reported eliminating their overdraft programs altogether. Bank of America ended its program in March after extensive interviews with its customers.

"We heard time and time again, 'Don't let me spend money that I don't have,' " said David Owen, head of the bank's payments business.

Washington resident Charlie Meisch said he didn't even realize he had overdraft service on his account until his bank, Chevy Chase, informed him of changes in the federal regulations. He said he has never used overdraft programs and would not sign up for the service. But what would entice him are services or notices that help customers avoid overdrafts in the first place, such as text alerts when account balances run low.

"Banks will set themselves apart the more they can work with you to avoid this stuff," he said.

Some banks that do not charge overdraft fees are promoting their stance as proof they are more customer-friendly. ING Direct, which hasn't charged overdraft fees since launching its checking accounts in 2006, created an overdraft calculator for consumers to see how much they can save with the online bank.

"The checking account should work for you, not against you," said Todd Sandler, head of product strategy for ING Direct. "We feel like we've taken a much smarter approach in this category."

People can still elect an overdraft line of credit, however. In those cases, ING essentially lends customers the money they are missing at what Sandler said is a competitive rate, rather than charge a flat penalty fee. Other banks have been touting the ability to tap into savings accounts or credit cards when a checking account is overdrawn.

But the Moebs survey also showed that about 11 percent of banks and credit unions actually created overdraft programs, an acknowledgment that the service is important for some customers.

The Fed's rules also attempt to recognize that the overdraft service can be a useful tool: The rules do not apply to checks or recurring automatic payments. Officials said such payments are often applied to bills, such as rent or car insurance, and consumers indicated that they would rather pay an overdraft charge than have them denied. Several banks also said they will continue to allow overdrafts at ATMs but will notify customers that their balances are insufficient.

"What we wanted to do was to give customers lots of choices," said Pete Jones, Mid-Atlantic regional president for Wachovia, which has kept its overdraft service. "I don't think we want to do away with any opportunity."

Still, Wachovia's parent company, Wells Fargo, expects that revenue from overdraft fees will fall by $500 million this fiscal year. Bank of America has estimated its losses at $160 million a quarter. Moebs estimates that total bank revenue from overdrafts will drop about $2 billion this year to $35.2 billion, the first decline in at least a decade.

Industry groups have said banks will hunt for ways to recoup those losses. Banks could decide to charge customers a fee unless they sign up for multiple accounts, rather than just a checking account, or fail to maintain a certain balance. They might also charge for certain services, such as writing multiple checks.

"We expect that free checking will go very far away," Riley said.