The Muddled World of Current Account Interest and Overdraft Fees
In the late 1990s, a directive was issued by the UK Government to the clearing banks, effectively stipulating current accounts should provide interest to balances in credit. However, for decades, banks have found ways to circumvent this law by introducing overdraft fees and fixed account maintenance charges.
Interest on Current Accounts in Credit
In 1995, there was widespread criticism of bank practices. People were being charged high overdraft rates, often 12% over Base Rate, yet those with credit balances were not receiving any interest. To address this, it was decided that current accounts with credit balances would accrue interest at a slightly lower rate. At that time, deposit accounts accumulated 25% Interest Allowance Rate (IAR) on a minimum ￡10 balance. It was agreed that a 1.5% IAR would be provided on current accounts with credit balances.
Overdraft Rates and Account Maintenance Charges
Despite this agreement, banks maintained much higher overdraft rates at 19.9% Annual Percentage Rate (APR), with the right to charge a fixed account maintenance fee ranging from ￡5 to ￡10 per month. These fees were often seen as unreasonable, especially as more people were shifting away from cheque-based transactions to debit cards and ATMs. Additionally, banks continued to charge merchants a substantial merchant fee on top of a handling fee.
Monthly Handling Charges and Overdraft Fees
The banks introduced monthly handling charges for current accounts, even for those not using the overdraft facility. For instance, a ￡6 monthly fee was levied just for having the overdraft facility, with another ￡6 if the overdraft was used. On top of these charges, a 19.9% APR was applied to the overdraft balance on a daily accrual basis. This created a stacked interest rate, often pushing the annualized percentage rate upwards to 26-30%.
Manipulation of APR and Customer Perception
The banks did not reduce the service charges but instead reduced the APR. This created an anomaly where the standing charges had a direct effect on the final APR. For example, a ￡100 overdraft with a balance in credit for one month would cost ￡13.50, resulting in an annual interest rate of 170%. Banks used daily accrual and the fluctuating nature of the account to further complicate the interest calculation, benefiting themselves at the customer's expense.
Recent Government Intervention and New Overdraft Fees
In recent years, the Government attempted to address these issues by abolishing operating fees for accounts with credit balances. However, this was met with a new policy, mandating that the banks could now charge an APR of 39.9% on overdrafts, effectively reverting to early credit card and retail credit interest rates. This was done to discourage excessive spending, but experts argue that this merely compounds the financial burden on individuals.
The introduction of payday loans, applying a similar principle but with monthly interest rates of 4%, has further complicated the situation. Payday loans can result in annual interest rates of 1700% to 2250%, far above the APR charged by major banks.
This has led to a situation where the UK Government is being criticized for exacerbating financial difficulties, even in the context of economic challenges such as job losses due to the Coronavirus pandemic.
Conclusion
The history of interest and overdraft fees in current accounts is a tale of manipulation and exploitation. Customers often find themselves in a worsened position due to hidden fees and complex interest calculations. What was intended to empower consumers has ultimately led to a system that exploits those in financial distress. Retail banks, in their drive to meet company quotas, have lost sight of responsible lending practices, contributing to a potential credit crisis similar to the one in the 1990s.
It is crucial for both the government and the banking sector to re-examine their policies and ensure that they are transparent and fair to consumers.