Matrix-driven overdraft system provides higher level of service, manages risk

There seems to be some confusion about dynamic matrix systems–which can cause a customer’s discretionary overdraft limit to change from time-to-time based on the risk profile of the customer—and the benefits they provide to financial institutions and their account holders.

A recent article entitled, “Disparate impact studies especially tough on dynamic matrix systems,” attempted to cast a negative light on dynamic limit overdraft strategies claiming that “these programs are not transparent and are based on an abstract set of parameters or a complex matrix of eligibility requirements, which disparately impact certain customer segments.”

We would like to set the record straight by giving the whole story about a dynamic limit-setting strategy.

First, a discretionary overdraft program is just that, discretionary. This means it is up to the financial institution to determine whether it will pay an item that results in an overdraft for the customer. Compliance-driven overdraft programs spell it out in account disclosures: the financial institution cannot guarantee or promise payment of every overdrawn item. To do so would imply a guarantee or an extension of credit, which violates the definition of a discretionary overdraft program.

Institutions with fixed overdrafts limits should ensure that CSRs and other personnel do not communicate a verbal guarantee of payment to customers (i.e., “If you opt-in to Reg E, we will pay your ATM and one-time debit card transactions up to $500.”), as this conflicts with written account disclosures and program integrity.

Second, with regard to the author’s statement that matrix style programs are “not transparent and are based on an abstract set of parameters”: The truth is, both fixed and dynamic-limit overdraft programs utilize a set of parameters to qualify accounts for the service; and they all have varying levels of transparency.

A matrix-driven overdraft program attempts to predict a customer’s “ability to repay” an overdraft and its associated fees by utilizing algorithms that analyze multiple account data points. Based on this analysis, the program sets a custom overdraft limit for each account holder.

With a “fixed advertised overdraft limit,” institutions automatically honor overdrawn checks and ACH items up to the fixed overdraft limit, say $500. For items that exceed the limit, the financial institution typically makes ad hoc decisions, often paying items in excess of the overdraft limit.

Our experience tells us that when financial institution employees make these ad hoc decisions, they do so using common sense. Unfortunately, the decision process is inconsistent and does not apply to every customer, which is exactly the negative claim the author assigns to matrix-driven systems.

On the contrary, a matrix-driven program consistently applies these “common sense” factors, like duration of account or relationship, related balances and deposit activity, to every decision, and every customer.

While accounts may receive different limits, those limits are based on risk factors that apply to both the customer and the institution.  None of those risk factors should be based on the age, race, color, sex, religion, marital status, handicap or national origin of the account holder.

For instance:

• An account that has recently been opened will likely receive a lower overdraft limit than one that has been in existence for years.
• A customer that deposits $50 per month will not receive the same overdraft limit as one who deposits $5,000 per month.
• A financial institution should lower or even remove an overdraft limit when deposits have stopped.

Third, “disparate impact” occurs when a lender applies neutral policies, but the policies disproportionately exclude or burden certain customer segments. The article fails to inform the reader that a neutral policy that creates a disparity is not a violation if there is a “business necessity” for such policies. The business necessity is to protect the financial institution from losses and to abide by regulatory guidance to set overdraft limits based on an account holder’s ability to repay. A fixed-limit overdraft program fails to adequately address either of these concerns. 

Our contention: not all customers are alike, so why treat them that way?

Utilizing a matrix-driven or dynamic limit overdraft strategy, financial institutions can provide a higher level of service by striving to pay more overdrafts when it makes sense for the customer while managing risk and meeting regulators’ guidelines for monitoring the “individual credit worthiness of account holders.”