For the majority of Americans, heading to the bank or credit union to make a deposit, withdraw funds, or even just to check the balances on accounts is a weekly or daily errand. But for a large and growing number of people, using the banking system creates more problems than it solves, and is leading many to turn to some of the more seedy segments of the financial industry, causing more harm than good.
According to CityLab, 17 million Americans choose to forego the use of the traditional banking system. Another 43 million have a bank account, but use other financial services, like check cashing companies, as well. And what appears to be happening is that those check cashing companies are growing wildly, as traditional banking falls out of favor with the economically disadvantaged. There was $45 billion in check-cashing transactions in 1990, and $58.3 billion in 2010. That’s a 29.5% increase in 20 years. Also, payday lending grew 200% between 2001 and 2010, from $10 billion to $30 billion.
So, why are so many people going out of their way to avoid the banking system? As CityLab says, it appears to be a combination of several factors, chief among them cost and transparency. It turns out that traditional banks can often be more expensive for lower-income individuals to use, as they are at a higher risk of being assessed fees from overdrafts, bounced checks or late payments.
This, interestingly enough, strikes at the heart of the logic employed by a number of the nation’s biggest banks, and reasons why they offer services like free checking accounts. Essentially, those free services end up being immensely profitable, mostly because the poor end up with an avalanche of fees and charges, creating a cycle of debt that many aren’t able to pay their way out of.
To illustrate the financial industry’s attitude toward lower earners, we can simply take a look back at statements made by industry leaders in the recent past. Michael Lewis, author of books including Flash Boys and Liar’s Poker, wrote a small but important passage about this very idea in his book The Big Short. In the book, Lewis describes how Herb Sandler, the CEO of a savings and loan company called Golden West Financial Corporation, explained to attendees of a luncheon why banks are willing to extend free services, like checking, to their customers.
“‘someone asked him if he believed in the free checking model,’ recalls Eisman. ‘And he said, ‘Turn off your tape recorders.’ Everyone turned off their tape recorders. And he explained that they avoided free checking because it was really a tax on poor people–in the form of fines for overdrawing their checking accounts. And that banks that used it were really just banking on being able to rip off poor people even more than they could if they charged them for their checks.”
Sandler’s mentality in dealing with the poor is more or less what was shared among a group of Wall Street brass, and was certainly never meant to make it outside of the room. But it does shed some light into how the big banks actually view their poorer customers. Add that sort of mentality onto the fact that many people simply lost faith and trust in the system following the financial crisis and recession, and it becomes understandable as to why the poor may not want to keep their money within the banking system.
Why is that important? What does it really matter if a relatively small (17 million is about 5% of the U.S. population) segment of consumers want to forego the use of traditional banks? Well, for one, payday loan and check-cashing companies don’t offer any way for the poor to actually save or invest their money, which could be important for those actually attempting to climb out of poverty. Also, check-cashing services and payday loan businesses are notorious for their predatory behavior. That alone should be enough to scare many potential consumers away from their services, but it appears people aren’t aware of that fact, or simply choose to ignore it.
Another reason that the poor may want to avoid having a bank account is that it makes it harder for debt collectors to track them down. A study from The Urban Institute published this past summer says that 77 million Americans, or 35% of adults with credit on file, have a debt in collections, owing, on average, more than $5,000. With more than one-third of the entire population actively trying to manage these debts, finding a way to be able to dodge bill collectors, who can put liens on bank accounts may be a big catalyst behind people’s propensity to forego traditional banking. Also, if those customers owe a bank money for fees originating from bounced checks or an overdrafted account, it does make sense that some would rather just take their checks to a check-cashing service, get hit with the fee they charge, and keep the rest as opposed to having to fork some of it over toward their debt balance.
There could be any number of reasons that people are opting to dodge the big banks, and many of those reasons are perfectly justifiable. But reliance on check-cashing services, rent-to-own stores and payday lenders is likely not the path towards prosperity or sound financial health in the long term. Primary and high schools do not really teach or go into debt management or personal finance, and unless people are fortunate enough to have someone in their lives who can teach the importance of saving and healthy financial habits, it’s easy to get into trouble before you even realize what has happened.
If America really wants to address poverty, build stronger communities, and cultivate personal responsibility among its citizens, then developing healthy a healthy financial backbone, through education or non-predatory banking systems is of paramount importance. These options do exist, and are growing in number and influence. Credit unions and small, community banks are likely to be much more helpful than a big, multinational financial organization, and can help the nation’s poor put together a plan for smart saving habits and debt repayment options. The key is to show those earning lower incomes that financial institutions can be tools to help them, not simply businesses out there looking to get a cut of their paycheck, wait for them to overdraft and slam them with fees or assist debt collectors in garnishing funds from their accounts.
While the poor do appear to be dodging the banks for now, it’s likely that the big financial institutions won’t actively do anything about it until it starts eating into profits and effecting the bottom line. According to the Consumer Financial Protection Bureau, 61% of profits from consumer checking accounts come from overdraft and insufficient fund fees — paid by people who have next to no money. If those people keep bailing on their accounts and opt for check-cashing services instead, eventually that decline in revenue will hit profit margins.
For now, it looks as though little is set to change. As with anything, it will take a loss in profits for banks to actually address the issue on their end, and the poor will need some large concessions from the financial world to regain their trust in the banking system. Until that happens, check-cashing services will keep growing, and the poor won’t gain any traction toward gaining sound financial footing.
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