My friend Mike, owner of this wonderful website, is familiar with my background as a bank marketing person for well over 35 years. Over the past couple of years, he’s been on the receiving end of many a rant about free checking and the ongoing efforts by some folks to kill this highly desirable account.

A few weeks ago he asked if I’d do a mind-dump about my experiences with free checking and my thoughts about its future. So, please excuse the rambling nature of what you’re about to read below. It truly is a combination mind-dump and rant about America’s beloved free checking account.

Contents:

• What is Free Checking and Where Did it Originate?
• Checking Accounts are The Last Remaining Franchise
• Today’s Great Recession Impacts Free Checking
• Fixed Costs and Price Elasticity of Demand
• Reduced Checking Fee Income Sparks War against Free Checking
• Mega-Banks Rush to Replace Free Checking
• Update Reg DD Truth in Savings
• Free Checking – Dead or Alive?
• The Ultimate Free Checking Irony
• Cutting Costs by Reducing Features and Benefits
• Bury the Bad News in Small-Type Disclosures
• Some Final Comments about Free Checking

What is Free Checking and Where Did it Originate?

I’ll start by setting the record straight on the origin of the free checking account. It wasn’t created by a banker. It was created in 1982 by a team of experts working at a small direct mail agency located in Lincoln, Nebraska.

It was one of seven unique checking accounts that were combined with a free gift and marketed as a complete turnkey marketing program under the name of Totally Free Checking and a Free Gift Too!

Initially sold on a territorial exclusivity basis, results from the direct mail program were beyond expectations. Over the ensuring years, more and more community banks adopted the program because of its success in generating new checking customers for program participants.

For many years, free checking accounts were offered primarily by the smaller banks and credit unions. It wasn’t until the late 1990s that the big banks finally realized that free checking wasn’t a fad and jumped onto the bandwagon. Still, most were reluctant to promote it aggressively. Offering it was more of a defensive move.

Surprisingly, after more than 28 years, there remains a gross misunderstanding about free checking today – especially among the banks and the media.

Free checking is labeled “free” for two simple reasons – one, the word “free” is the single most powerful word used in marketing and two, the account is actually free.

Consumers love acquiring something of value that’s free.

When free checking, as we know it today, was first introduced, there was some confusion over what constituted a “free” checking account. A few banks offered “free checking” but required customers to enroll in a direct deposit program to receive free checking. So, a few years later the government via Reg DD Truth is Savings came up with the requirements to be labeled free. They are:

1. No minimum balance requirement
2. No set monthly fee
3. No excess activity fees
4. No per item fees

This section of Reg DD brought marketing consistency to the free checking account.

What is important today is that these requirements are based on account attributes or features and not based on use. This will become important below.

Checking Accounts are The Last Remaining Franchise

The checking account is banks’ and credit unions’ last remaining, exclusive franchise. All other bank and credit union products are available from non-banks – including credit cards, savings accounts, mortgages, lines of credit, and auto loans. Unfortunately, I don’t feel bankers understand the importance of the checking account. They take it for granted. They believe they can simply load it with fees today and consumers won’t balk.

They simply fail to see the elephant in the room which is Walmart. Walmart has been trying since the early 1990s to get the federal government to approve its request for a consumer banking charter. It’s been fought hard by bankers. Once Walmart gets a banking charter, you can imagine it offering free or very low cost checking accounts to its huge customer base. If you don’t think so, remember that Walmart introduced $4.00 prescriptions a few years ago.

If the large banks continue jacking up the cost of checking accounts and some smaller institutions follow suit, you can be it won’t be long before Walmart enters the checking account business some way. It’s inevitable.

Another threat on the horizon is the young techies, some of whom would love to find another delivery channel for the checking account. Perhaps Jack Dorsey, co-founder of Twitter and founder of Square, and some friends are working on just such an alternative.

Unlike other bank products and services, checking accounts are not only the institution’s CORE PRODUCT, checking accounts are the stickiest account. They are tough and time-consuming to close and move elsewhere. They are the bank’s platform for cross-selling. And most important, consumers will tell you that their “primary” bank is where they have their checking account, not their mortgage or CDs or auto loan. In spite of this, most bankers fail to treat checking accounts as their last remaining, exclusive franchise.

Today’s Great Recession Impacts Free Checking

In today’s struggling economy – which, by the way could be with us for the next 10-20 years – consumers want and need the value delivered by free checking.

Since its introduction in 1982, never has the economic conditions been more favorable for free checking.

In addition, consumers have always felt they were being ripped-off by banks and credit unions charging them for checking as they understood that they are actually loaning their financial institution money interest-free for weeks and months at a time. They know this money gets loaned out at higher rates. Therefore, consumers feel free checking is their reward for loaning banks money interest-free. They shouldn’t have to pay for a basic checking account.

Of course, this scenario has changed since the Federal Reserve lowered the Fed Funds rate to near zero a couple of years ago in an attempt to get banks to begin lending and consumers to resume borrowing. With such a low borrowing rate, banks today can just as easily borrow money from each other, or from the Federal Reserve, to fund loans. Checking account balances have lost some of their importance to the banks. Still, it’s probably a safe bet that most consumers are not aware of this. Then continue to believe they are loaning their money interest-free to the banks.

Fixed Costs and Price Elasticity of Demand

Another relevant issue with free checking is that consumer banking is largely a fixed-cost business with huge branch, systems, and people costs. Therefore, adding more checking accounts is an ideal and low-cost way of spreading fixed costs across a much larger account base. This drives down the overall cost-per-account for every bank product. Adding the next new free checking account costs the bank very little in variable costs – especially today with online statements and fewer customers visiting the branches.

In the not-to-distant future, we may see a major change in both the number of retail bank and credit union branches and their configuration in an effort to drive down costs.

Of course, all banks and credit unions today are facing increased costs to provide an array of mobile banking services to their customers.

Fixed costs aside, pricing is the major issue when it comes to consumers’ choice of a checking account.

It’s my opinion that most bankers seem to ignore the impact price elasticity has on the demand for checking accounts. I suspect that the checking account pricing curve is very elastic – this means that the higher the cost, the more likely the customer will move elsewhere for a lower cost product. The lower the cost, the more checking accounts a bank or CU will open.

And in today’s struggling economy, consumers are very price sensitive. This price elasticity is why banks or credit unions offering free checking find the majority of their customers with free checking and not some high-priced premium account loaded with unwanted features.

When a bank or credit union drops free checking, replacing it with an account with a minimum balance requirement and monthly service fee, it can expect an increase in checking account attrition.

In an attempt to mitigate this increase in attrition, the big banks and some followers have been quick to adopt what I like to call “stealth free checking accounts” which will be covered below.

Adding to the banks’ and credit unions’ woes is a spate of recent legislation aimed at reducing their revenue from checking accounts.

Reduced Checking Fee Income Sparks War against Free Checking

One major outcome of the financial crisis which began in 2008 is a government assault, fueled by growing consumer complaints, against excessive checking account fees charged by banks and credit unions.

The initial overdraft legislation was quickly followed by a dramatic reduction in the debit card interchange fee at the point of sale. Now, the new Dodd-Frank consumer financial protection bureau is taking a closer look at additional fees.

This sudden loss of lucrative fee income quickly focused the mega-banks’ attention on the free checking account – an account they were loath to provide in the first place. Remember, they were very late adopters of free checking.

Their immediate goal was to not only eliminate their own free checking accounts but to mount a campaign to eliminate it totally.

As a result, since late 2008, we’ve been treated to an array of media articles predicting the pending demise of free checking. Most of these articles are available on this website.

Eliminating free checking is not going to happen. It’s a smokescreen created with the help of a small number of third-party vendors who are banking consultants trying to sell banks on the need for the consultants’ services to revamp their product line. They originally planted these stories along with help from the mega-banks that would love to see free checking go away.

It’s in the big banks’ best interest to fuel a media campaign against free checking as they understand the threat if the nearly 14,000 smaller banks and credit unions continue offering free checking. They are simply trying to convince all bankers that it’s in their best interest to dump free checking and load their checking accounts with high fees.

Unfortunately, the media gets swept-up in this planted story. It’s like a politician or political party that plants a misleading story about the opposition in the hopes it will minimize the threat.

In the meantime, the nation’s four largest banks, Citibank, Bank of America, Chase, and Wells Fargo have dominated the financial media with stories about a variety of new fees, new checking accounts, new account market tests, and threatened changes on the way.

Mega-Banks Rush to Replace Free Checking

In the meantime, big mega-banks like Chase and Bank of America are busy revamping their checking product line in the hopes of generating greater fee income from checking accounts. The $64,000 question that’s too early to answer is, “Will it work?” Price elasticity of demand says it won’t. At the same time a bank spokesperson is busy pushing the free-checking-is-dead story line.

Here’s what Bank of America spokesperson Anne Pace was quoted as saying in October, 2010, “Customers never had free checking accounts. They always paid for it in other ways, sometimes with penalty fees.” This is blatantly not true. Yes, some customers paid penalty fees, but a large majority of free checking customers never paid any penalty fees. The operative word here is “penalty.”

So, is Bank of America really eliminating free checking?

The answer is NO WAY.

They are simply reconfiguring one or more of their checking accounts so they remain free. It’s just that with the outdated Reg DD section on advertising free checking, the bank can’t promote it as free. But to a majority of customers who open and use it, it will be free.

When they first appeared, I labeled them as “stealth free checking accounts.” The operative word here is “stealth.”

The difference today is that “free” is based on transaction behavior or usage and not strictly product attributes or features.

Bank of America’s new eBanking checking account promises no minimum balance or monthly fee as long as the customer agrees to online statements and to not go into a branch for transactions.

Remember, online statements weren’t available in the early 1980s when free checking was introduced and aggressively marketed by the smaller banks and credit unions.

We’ve learned of other large banks offering free checking if the customer agrees to use his or her debit card for a set number of transactions each month and agrees to online statements.

Paper statements are very expensive to print and mail. Moving to online statements dramatically lowers the cost of servicing a checking account.

Update Reg DD Truth in Savings

Perhaps what is needed most is to petition the feds to revamp the Reg DD Truth in Savings regulation to create a more up-to-date list of requirements for what constitutes free checking. There’s no need to eliminate the current no minimum balance and no monthly fee requirements. Simply add the following requirements:

A checking account can be labeled and promoted as free as long as the customer agrees to:

1. Accept online only statements.
2. Use the account’s debit card at the point of sale a minimum (in the range of 6-12 times per month) of six times per month.
3. Agree not to use the branch for deposit and withdrawal transactions.

There may be similar transactional or behavior requirements added to this list.

The idea of a free checking account should not be threatened by an outdated regulation. We can retain the use of the word “free” by simply updating the regulations to be more in tune with today’s technology made possible by the Internet.

This is what the banks – especially the big banks – should be doing instead of spending time and effort spreading stories about the demise of free checking – the most popular checking account available today.

The bottom line is this: Consumers value free checking more than any other type of checking account offered. It’s makes no sense to take it away from them just because a number of banks and credit unions are on the search to replace lost fee income from overdraft and debit card usage.

As long as there is a huge demand for free checking, there will always be some banks and credit unions finding a way to offer it to them. If not, you can count on Walmart to find a way to do so. YOU CAN BANK ON IT.

Free Checking – Dead or Alive?

Free checking remains alive and well – primarily with the smaller community banks and credit unions that are not burdened by tremendously expensive brick and mortar branch networks.

To date we’ve witnessed a handful of bigger regional banks mimic the four mega-banks by dropping their free checking accounts but so far the smaller banks and credit unions are holding fast.

As a result of the economic crash in 2008, the free checking account has become a lightning rod for critics.

Free checking is to folks in banking what Google is to folks in the tech world. Its rampant popularity and usage has created a number of detractors and enemies who would like to see it go away.

In banking, the detractors are primarily the four big mega-banks and a few regional banks and a handful of third-party vendors specializing in bank consulting. Occasionally, someone working for one of these vendors will pen an article predicting the demise of free checking. Such stories frequently appear online. Most of them are available on this website.
The big banks would like to see free checking go away as it threatens their ability to indiscriminately increase minimum balance requirements, increase monthly fees, and add a variety of new fees on their checking accounts.

The financial services vendors are busy predicting its demise so they can convince bankers to hire them to revamp their checking product lines in a post-free checking environment. You can imagine the cost to hire such a consultant.

The Ultimate Free Checking Irony

Now, from my perspective, here’s the ultimate irony . . .

The federal government was pushed by consumer complaints over punitive fees to enact the new CARD (credit card) legislation, the Reg E ODP opt-in legislation, and lower the debit card interchange fees. The end result is that these very same big banks are now rapidly creating new fees, increasing existing fees, and increasing minimum balance requirements to generate more fee income to offset the loss of fee income from the legislation?

Bottom line, the Fed hasn’t solved the high, abusive fee problem. They’ve simply created an environment where banks and credit unions will find other ways to generate the same amount of fees…or more. So in the end, consumers are no better off than before. It’s like the old Whack a Mole game. You pound down a fee on one account and two more pop up on another account.

You have to ask yourself, how long will it be before these same consumer groups go back to their legislators asking for new legislation to provide relief from these newer fees? It’s inevitable.

The problem is the government helped create these big mega-banks and then bailed them out as too big to fail. And now they run roughshod over the consumer market for banking products and services. It’s a sad state of affairs for the consumer.

Along with increasing and adding fees, the bigger banks have been busy looking for ways to cut costs of providing their checking accounts.

Cutting Costs by Reducing Features and Benefits

Not only are these big banks eliminating free checking and increasing fees on other checking accounts, they are looking for ways to cut costs.

Over the years, banks and credit unions have become good at adding a litany of features to their non-free checking accounts in an attempt to differentiate them from free checking while being able to charge higher monthly fees.

Some of the more pricy premium checking accounts look like Christmas trees filled with blinking lights and ornaments.

One of the last features to be added was a debit card rewards program where points are awarded for use. The goal here is to convince consumers to use their debit card as frequently as possible to earn rewards. In turn, the bank or credit union reaps huge interchange fee income.

One of the first steps taken by banks to reduce checking account costs was to dramatically revamp, or eliminate, their debit card rewards program. While these programs are created to help a bank differentiate itself in the market place, the consumer always ends up paying for the program in the first place with higher fees. So they pay higher fees on the front end and get a puny amount back in the form of a reward on the backend.

Fully-loaded, high cost checking accounts are one reason why savvy consumers prefer a no-frills free checking account.

Believe it or not, there is an upper limit on the number of relevant features you can attach to a checking account. And this number is quite low as you’ll discover below.

Years ago, in the early 1970s, my first bank marketing job was in the product development group at Continental Bank, Chicago. If you are a member of such a group, you spend most of the day sitting around trying to figure out more ways to charge customers more money for banking with you…or coming up with new accounts that cost the consumer more money.

I can only imagine being a member of a product development team in a big bank today. Your entire focus is on “let’s make a list of every possible fee we could possibly charge and see which ones we can implement. Not only that, we have to test to see the optimal fee amount where adding one more dollar to the fee will result in increased account closure.” You’re seeking the optimal point where the price and demand curves intersect.

Remember the old Bernard Baruch saying, “If all you have is a hammer, everything looks like a nail.” In effect, today if you are a product development person at a bank or credit union and your goal is to replace lost ODP and debit card interchange fee revenue, everything being discussed involves a fee of some sort.

Ideas for possible new fees include:

• Increasing monthly maintenance or account fees
• Adding new monthly maintenance fees on what was a free checking account
• Increasing minimum balance fees so the existing fee kicks in more frequently
• Adding and increasing transfer fees on linked accounts when transfers are made to cover a potential OD situation. Why is this necessary when you can go online and make transfers for free?
• Fees for getting email fraud alerts from your bank or CU
• Fees for credit reports when applying for a loan or checking your FICO score
• Increased fees for ordering paper checks
• Fees for paper statements
• HSBC now charges a $19 annual fee for a line of credit
• Inactive checking account fees
• Fees for calling customer service or visiting the branch
• Closing an account fee
• Foreign ATM use fees (example, according to MoneyRate.com this fee is up 13.8% over the January 2010 survey, going from $1.88 to $2.14 as of the July 2010 survey)

The recent attempt by Bank of America to add a $5 monthly debit card fee went down in flames – much to the delight of consumers everywhere.

Often, banks are their own worst enemies. They create a new checking account with a high minimum balance requirement and high monthly fee for falling below the minimum. To make it more attractive to consumers, they treat it like a Christmas tree, as mentioned above, by hanging all sorts of feature ornaments on it. Unfortunately, some of these features cost the bank money to provide. The problem is that over time if you take a look at feature use, you discover that very few customers are availing themselves of these features yet the bank is paying some third-party vendor for these programs. So the bank’s account costs are higher than they should be.

In my long experience, most consumers don’t want or use a majority of these bells and whistles as they are called by marketers. They are simply window-dressing.

In the 1980s, at least two studies were done, one by a major credit card company looking at the value of added features. The bottom line, the optimal number of added features is three. Anything beyond three gets lost in the customer’s mind. Yet today, we find banks lathering on the features in the hope of convincing customers that a fully-loaded account is worth the higher costs. It just isn’t true.

The proof can be found at any bank offering free checking plus an array of higher priced accounts loaded with features. Inevitably, if you look at an account frequency distribution you’ll find something like 75%-80% of the bank’s customers prefer free checking and the other 20%-25% are spread across the remaining, higher-priced accounts.

Bottom line, given a choice of types of checking accounts, the vast majority of consumers choose free checking. It’s the best value possible.

Trying to force customers to accept an account other than a free checking account is no different than trying to persuade a majority of drivers to buy a higher-priced electric car.

Another issue that most consumers find irritating is that most checking accounts come with a lengthy amount of disclosure copy. It’s in this copy where all the costs are buried.

Bury the Bad News in Small-Type Disclosures

Another issue concerns the disclosure of all these higher minimum balance requirements and new and higher fees. You can count of a majority of banks burying this information in mice-type disclosure copy at the bottom of brochures, in letters, and in newspaper ads for the new products. Not only that, it gets buried in disclosure copy on the banks’ websites. They know that most consumers don’t read this information.

Bankers and bank marketers know that most consumers don’t read the letters sent them advising them of changes in terms and conditions, including all these new balance requirements and fees. Those that do tend to scan them.

So it’s highly likely that a majority of consumers won’t really know all the details about their new checking account or their current account that has been repriced. This is the beauty of free checking, there are very few disclosures required.

Checking customers generally discover pricing issues only when the new or higher fee is assessed on a monthly statement.

This failure to disclose all this information up-front in the same size type as the marketing cop y is the main reason why a bank like Ally Bank can differentiate itself by claiming to have no hidden fees, doing away with disclosure copy, and using simple language to explain things to customers.

Some Final Comments about Free Checking

My bottom line as it relates to America’s favorite checking account?

Unless it is legislated out of existence, the free checking account will be with us for many years to come. Consumers will demand it and someone will make it available – even if that someone is Walmart or a group of techies writing a software program and building the infrastructure to provide an alternative to traditional banks and credit unions.

By the way, it’s my opinion that the most objective information about retail banking, including consumer behavior as it relates to banking, comes from Michael Moebs of Moebs Services. Moebs has been out in front on this free checking debate and has provided a number of articles on the topic of free checking. Most of these articles are available on this site.

One final note: The popularity of the free checking account is supported by the large assortment of free checking account names selected by banks and credit unions in an effort to differentiate their free checking account from those offered by competitors. For years I’ve been keeping a list of all the checking account names that include the word “free” in them. This exclusive list currently has in excess of 90 such unique names for the basic free checking account. Some of the names are very creative. A copy of this list is available on this website.

I appreciate your time in reading this missive about the coveted free checking account.

Steve Topper
Ex-bank marketer, blogger, and sometime ranter