Is the end nigh for free banking?
The verdict of the bank charges test case in favour of the Office of Fair Trading (OFT) has stoked fears that free banking in the UK could come to an end.
Last week, the judge in the High Court case between Britain’s biggest banks and the OFT decided that the industry watchdog can apply consumer contract regulations to decide if bank overdraft charges are fair or not.
But while a question mark still hangs over the fairness of these charges, the judge found in favour of the banks on a seperate issue and ruled that their terms and conditions surrounding the charges are plain and intelligible.
While the former decision is an initial victory for the OFT and consumers, it could lead to less positive ramifications for the UK banking system.
Kevin Mountford, head of current accounts at moneysupermarket.com, said: "As with the credit card industry, we may see a cap on charges and an increase in transparency on how customers are charged and what for.
"However, it is very likely this could trigger the end of free banking, meaning people who never abuse their banking facility will subsidise those who do."
Since the beginning of 2006, thousands of customers have tried to reclaim charges that can be as high as £39 when an agreed overdraft is exceeded or a direct debit or cheque bounces, on the grounds that they were too high and unfair.
The OFT believes the extortionate charges do not reflect the true cost incurred by the banks, which is thought to be as little as £2.50.
The High Court itself has not ruled that the charges are unfair and more hearings are expected, which means claims will be delayed and customers should not expect automatic payouts.
Claims from consumers have been put on hold since the OFT first agreed with seven banks and the Nationwide building society last July to stage the test case to decide if it had the power under consumer contract regulations to regulate overdraft charges.
Prior to this, banks are estimated to have paid out more than £550 million in refunds to customers.
Action for consumers
If the banks appeal the decision, the saga could rumble on even longer. Teresa Perchard, director of policy at Citizens Advice, said: "Until the case is resolved complaints remain on hold and charges continue to be applied to accounts, unless a customer is considered to be in financial hardship.
"This is why it's important that people in difficulties let their bank know and that banks take a broad view of what financial hardship means. We see many cases where bank charges have made people's financial difficulties much worse, so we need to see banks sticking to their own code of practice by ensuring they don't impose unreasonable charges on people already in debt, people on benefits and customers with basic bank accounts."
Customers are advised to keep records of charges and continue to appeal them using the template letters available on the Which? website. It is possible to reclaim up to six years worth of charges and banks must log the claims until a final decision is reached.
Banks are issuing refunds in 'exceptional circumstances', so if you have received a charge due to an error on your bank’s part, or it is the first penalty you have incurred, it’s worth phoning your bank to explain.
In the meantime it’s crucial to keep your current account in check by regularly checking your balance and contacting your bank immediately if you anticipate exceeding your limit to discuss extending your overdraft.
However, overdrafts in general should be used as a financial buffer and not an extension to your current account. Overdrafts are an expensive form of debt and some banks charge up to 20% AER, which would increase a £500 overdraft by £100 a year.
An overdraft is an agreement with your bank that authorises you to withdraw more funds from your account than you have deposited in it. Many banks charge for this privilege either as a fixed fee or charge interest on the money overdrawn at a special high rate. Some banks charge a fee and interest. And other banks offer a free overdraft but impose very high charges for exceeding the agreed limit of your overdraft.
An account opened with a clearing bank (few building societies offer current accounts) that provides the ability to draw cash (usually via a debit card) or cheques from the account. Some pay fairly minimal rates of interest if the account is in credit. Most current accounts insist your monthly income (salary or pension) is paid directly in each month and they offer a number of optional services – such as overdrafts and charge cards – which are negotiable but will incur fees.
This is a mutual organisation owned by its members and not by shareholders. These societies offer a range of financial services but have historically concentrated on taking deposits from savers and lending the money to borrowers as mortgages, hence the name. In the mid-1990s many societies “demutualised” and became banks. One academic study (Heffernan, 2003) found demutualised societies’ pricing on deposits and mortgages was more favourable to shareholders than to customers, with the remaining mutual building societies offering consistently better rates. In 1900, there were 2,286 building societies in the UK; in 2011, there are just 51.
Where APR is the rate charged for money borrowed, Annual equivalent rate is how interest is calculated on money saved. The AER takes into account the frequency the product pays interest and how that interest compounds. So, if two savings products pay the same rate of interest but one pays interest more frequently, that account compounds the interest more frequently and will have a higher AER.
Used by the holder to buy goods and services, credit cards also have a monthly or annual spending limit, which may be raised or lowered depending on the creditworthiness of the cardholder. But unlike charge cards, borrowers aren’t forced to pay the balance off in full every month and, as long as they make a stated minimum payment, can carry a balance from one month to the next, generating compound interest. As the issuing company is effectively giving you a short-term loan, most credit cards have variable and relatively high interest rates. Allowing the interest to compound for too long may result in dire financial straits.