With bank fees rising, prepaid debit cards could replace checking accounts

These days, new banking fees seem to be spreading like the flu virus, with higher charges for overdrafts, stopped payments, ATM withdrawals and bounced checks popping up on each new monthly statement. The rising costs are leading some consumers to consider the once unthinkable: closing their bank accounts altogether. The alternative? Using prepaid debit cards that can be recharged to handle banking needs.

While such a move isn't right for everyone, a number of reports estimate millions of "unbanked" and "underbanked" consumers with limited or no access to bank accounts are already increasingly using prepaid debit cards. Many of the unbanked and underbanked are minorities or people with incomes below $30,000, according to a report released Wednesday by the Federal Deposit Insurance Corporation. Even consumers with bank accounts are using the cards to pay bills, control their own spending or help friends and relatives with spending needs, reports show.
More Careful Spenders

Research firm IBISWorld estimates the prepaid debit card market to be between $50 billion and $160 billion for 2009. The category has expanded at an average rate of 15% to 40% annually for each of the last five years.

"The prospects are strong for prepaid debit because the recession and unemployment is affecting the economy," said Aite Group research director Gwenn Bézard, author of the report, Prepaid Debit Cards: A Credible Alternative to Checking Accounts. Consumers have already shown that they are moving from store gift cards to prepaid debit cards to save money. Bézard said the use of prepaid debit cards is trending up, "as people become more careful as to where they spend and how much they pay in bank fees."

Bézard said prepaid debit cards could deliver savings of about $350 to more than $1,800 per customer for about 14% of those who already have checking accounts. He said the findings of his report, originally released in February, were still relevant, particularly as Congress debates placing restrictions on bank overdraft fees.

A similar report from financial advisory firm Britton Woods put the annual savings from using a prepaid debit card instead of a checking account at between $96 and $146, but it only covered "basic" debit card and checking account use. "There are a multitude of services a consumer could use that would increase costs for both bank and prepaid card accounts," the report said.

Frustration with Bank Fees

The savings are derived primarily from avoiding overdraft fees and non-sufficient funds fees that banks charge for not maintaining enough deposits, the reports say. "Checking accounts are free up until the point where you start to generate overdraft fees," said Bézard, noting that at $35 each, overdraft fees can make a "free" account quite expensive. Monthly account maintenance fees of $6 to $10 add up as well.

Yet another report by Consumers Union, Prepaid Cards: Second-Tier Bank Account Substitutes, suggests that consumers are switching to prepaid debit cards in response to economic uncertainty and frustration with bank services and fees. But the report also emphasizes a number of reasons why prepaid debit cards deliver banking services that are still high cost. The report adds that the cards may come with confusing fees and may not deliver the same protections for income loss as debit cards linked to traditional bank accounts.

Taken as a whole, the reports indicate that through hidden fees and deposit requirements, banks may have priced checking accounts out of the reach of some consumers, opening up a great opportunity for alternative lending operations like Green Dot, NetSpend and AccountNow, which issue re-loadable prepaid debit cards.

Never Going Back?

These companies are already set up in check cashing establishments nationwide, and they allow customers who direct deposit their paychecks onto the cards avoid activation and monthly fees, while providing access to credit card and online purchasing, as well as bill pay by phone, check or online.

Unemployed and low-income workers who discover prepaid debit cards because they cannot maintain account balances in their bank accounts may not return to banks once they get back on their feet. The Aite Group estimates that $20 billion in bank service charge income could be lost if a significant number of consumers switch from checking accounts to prepaid debit cards. The banks apparently are not concerned -- yet.

"While banks claim to address the unbanked market, their [non-sufficient funds] policies contribute to driving an ongoing flow of customers away from mainstream banking," said The Aite Group report.
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