The Beginning of the End to Over Draft Fees (Overdraft Overhaul) & Embedded Finance

A- The Beginning of the End to Over Draft Fees (Overdraft Overhaul)

Background:

Overdraft, the fee-based service that enables consumers to make debit transactions in excess of their available account balances, attracts significant attention from financial institutions, consumers, consumer advocates and policymakers.

COVID-19 pandemic has drawn fresh attention to this issue as millions struggle with urgent financial needs in some big economies as that of the United States of America. Furthermore, intense competition in financial services is driving many of the recent changes in overdraft policies and programs. Those pressures, com­bined with the introduction of new overdraft products and policies, required rethinking this important topic.

The Beginning of the End: Changing the Landscape of Overdraft Fees 

Overdraft fees are becoming less common, and several banks (led by Neo banks) now offer no-fee, or low-fee, checking accounts.

Neo banks initiators:

  • In recent years, some of the best online banks and neo banks have been introducing new online checking accounts that do not charge overdraft fees or that offer convenient alternatives to overdraft fees.  Examples:
  • AXO Bank: does not charge overdraft fees or NSF (Non -sufficient Fund fees) fees on its essential checking or rewards checking accounts.
  • Discover Bank: does not charge overdraft fees.
  • NBKE bank: does not charge overdraft fees.
  • Chime: with Chime’s SpotMe service, customers can overdraw their account by up to $20 on debit card purchases without being charged an overdraft fee. Chime offers a SpotMe allowance of up to $200, depending on the customer’s account history.
  • Huntington Bank: Offers its 24-Hour grace feature to give consumers extra time to make a deposit to avoid overdraft fees.

Banks and Credit Unions Following:

Several banks and credit unions have recently announced that they will no longer charge overdraft fees. Among them:

  • Alliant Credit Union, a $14 billion digital credit union, announced that they are eliminating overdraft fees and NSF fees on all checking and savings accounts.
  • Ally Bank: Ally Bank, one of the leading digital banks in the U.S., announced that it had eliminated overdraft fees on all accounts, with no requirements or restrictions. 
  • Capital One: is America’s 6th-largest retail bank, announced it will eliminate all overdraft fees and non-sufficient fund (NSF) fees for its consumer banking customers. Capital One will continue to provide free overdraft protection. 
  • Bank of America: the bank announced abolishing its fee for bounced checks — called a “non-sufficient funds” penalty. In addition to the announcement of reduction for the penalty for overdraft from 35$ to 10$ .
  • Wells Fargo:  announced it will also eliminate its non-sufficient funds charge as well as the fee for overdraft protection. The bank will also give customers a 24-hour grace period before imposing an overdraft fee and allow them to access direct-deposit payments two days earlier than before.

Drivers to Overhaul Overdraft Fees:

Historically, overdraft was a service created to provide customers with convenience and build loyalty, with nominal revenue. However, a collision of trends started to turn the model upside down, among them:

  • The emergence of debit card and digital payments
  • The marketing of “free” checking
  • Income instability for large swaths of the population, especially post pandemic
  • Rising consumers’ need to more short-term liquidity choices. Consumers seek convenient and relevant alternatives to overdraft.

All of these factors, induced and fueled the competitive forces in the financial markets, with both digital-only challenger banks and a growing number of large incumbents introducing accounts that do away with overdraft fees.

Future of Overdraft Fees:

Given the fact that overdraft fees constitute the main source of income and profits for the banks, overhauling it might not as easy as it seems. However, critics of overdraft fees are putting more pressure on banks to rethink overdraft fees as it treats the consumers unfairly, especially after COVID- 19 and the loss of jobs it caused. Hence, there is growing momentum behind the movement away from overdraft fees and diving deep into introducing alternative innovative options.

In this regards, it might be anticipated that even among banks that still charge overdraft fees, we may start to see more banks introduce innovative products and options to help customers avoid these fees.

Videos shedding light on the topic:

https://www.youtube.com/watch?v=97zZM3Au25U

B- Embedded Finance

Background:

Embedded finance is the future of the financial services industry.Embedded finance is mainly derived by the consumers’ changing habits, as now consumers are becoming open and willing to contract financial services with alternative providers to banks, as long as it is fast and secured. Thanks to technology, which made that possible. Now, with embedded finance, consumers can make a purchase and get credit in one place: the point of service.

Defining the Concept:

Embedded finance is the use of financial tools or services — such as lending or payment processing — by a non-financial provider. It’s the merging of a non-financial service provider, such as a retailer, with a financial service, such as payment processing, lending, or insurance. 

Embedded finance allows any type of company or online retailer to incorporate banking software directly into their websites or mobile apps as another service within their range of services, without having to redirect users to third-party websites. Thus, a company can integrate payments on its website so that buyers do not have to enter their credit card details for each transaction, suggest the option of payment by installments for online purchases, offer insurance, or issue its own credit cards, among others.

Benefits of Embedded Finance:

One of the primary benefits of embedded finance is its ease of use for consumers. In addition to simplifying onboarding procedures.

Another benefit is that with embedded finance, customers may be more likely to complete a purchase and experience customer satisfaction, which is essential in achieving brand loyalty.

Furthermore, for businesses, embedded finance can lead to making an increased profit as consumers are more likely to purchase an item or service and return to do so, repeatedly.

Another priceless gain of embedded finance is that it can be considered as a tool for better understanding consumers and their spending habits and needs. This data can later be used to drive future business development. 

Usage of Embedded Finance:

The most common types of embedded finance are:

  • Embedded Payments: Provision to make a seamless payment over a platform is made possible through embedded payments. Today, embedded payments have become an integrated feature of all e-commerce platforms and other applications.

One great example of embedded payments is Apple Pay which is a mobile contact payment system and digital wallet service that Apple Inc. introduced in 2014. Apple Pay is a secure and private payment method that supports major credit cards and payment networks.

  • Embeded Card Payments: Debit cards allow companies to simplify the process of paying contractors or employees. Instead of cutting checks or issuing direct deposits, companies can deliver payments to their own branded credit cards. In exchange for a debit card, the company can agree to pay the card-issuer all or some of the interchange fee.

One example of a company that uses cards to streamline payments is PayPal. Users have the option of linking their PayPal account to their bank account. They can also apply for the company’s cash card, which gives them direct access to the balance in the PayPal account.

  • Embedded Insurance: it puts today’s customers in control. It eliminates complexity of buying a traditional insurance plan by blending it with a product or service at the time of sale. By embedding insurance financing tools, businesses are better placed to deliver insurance quickly.
  • Embedded Credit: it is the seamless integration of “lending-as-a-feature” that allows digital platforms to offer their customers credit services via a familiar interface. It can be used to acquire loans, repay them.

For example, several B2B e-commerce platforms including Amazon allow retailers to set up a line of credit to make their purchases, by setting up the Buy Now, Pay Later (BNPL) feature.

  • Embedded Investments: embedded investments ease the process of investments by providing a single platform to manage their investments. These platforms allow users to invest in mutual funds, retirement plans, stock market and more.

A notable example is Acorns, which rounds up people’s purchases to invest their spare change.

So, as Embedded finance takes various forms the first step to decide on which form will add to the business is the identification of the company’s goals for its embedded finance project. Then the implementation starts. The implementation can be done through three methods to embed finance and banking programs into non-financial products and services:

  • Investing in an additional offering into the brand’s digital platform. This can include offering lending services or creating embedded bank accounts for businesses.
  • Joining the embedded finance movement as a connector, a bridge between financial service providers and non-financial businesses. This may resemble a data transfer network, used by businesses willing to offer financial products.
  • Collaborating with a company that focuses on embedding the financial infrastructure into its product or service and become a part of that ecosystem.

Key Players in the Embedded Finance Ecosystem:

  • Financial Institutions: includes large banks, small finance banks and non-banking financial institutions. They utilize their network to check requests from the embedded finance ecosystem and manage them. They manage regulatory risks, credit risks and compliance risks.
  • Digital Platforms: includes businesses and non-fintech companies that own customer-facing digital platforms like websites, mobile apps, etc. They offer customized financial solutions to their customers that are embedded within their platform.
  • Embedded Finance Infrastructure Companies: it includes FinTech companies that develop APIs to connect financial institutions with the digital platforms (the other two key players). It offers services like loan lifecycle user journey, customer services, alternate data underwriting engines, etc.

Illustrative Videos on Embedded Finance:

What is Embedded Finance: https://www.youtube.com/watch?v=iBPrGgx86wY

Embedded Finance: What is Embedded Finance?:https://www.youtube.com/watch?v=z2ZBKSYTCZ8

By: Yasmine Anwar- Researcher at Egyptian Banking Institute

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