The Consumer Financial Protection Bureau (CFPB) recently finalized its “Overdraft Lending: Very Large Financial Institutions Rule,” introducing sweeping changes to how overdraft credit is structured and regulated for the largest financial institutions. This rule, aimed at enhancing consumer protections, takes effect on Oct. 1, 2025, and has significant implications for the financial services industry, particularly smaller banks.
Understanding the Rule
The CFPB’s new rule applies to very large financial institutions—those with assets exceeding $10 billion. It amends Regulations Z and E to apply consumer credit protections to overdraft credit in certain circumstances unless the overdraft fees are at or below the institution’s costs and losses. Here’s how the rule functions:
Cost-Based Fee Limitations: Overdraft fees exceeding the institution’s costs and losses are treated as “covered overdraft credit” and are subject to Regulation Z. Institutions must determine whether their fees meet this standard using one of three approaches:
- Calculate Internal Costs and Losses: Institutions can analyze their costs following a standardized formula outlined in the rule.
- Adopt a $5 Benchmark Fee: If fees do not exceed $5 per overdraft, they are presumed to align with costs and losses.
- Disclose the terms of their overdraft loan just like other loans: For financial institutions that wish to profit from overdraft lending, they may do so by complying with the standard requirements governing other loans.
Separate Credit Accounts: Covered overdraft credit must be structured as a standalone credit account, not merely recorded as a negative balance in a checking or transaction account.
Repayment Flexibility: Financial institutions cannot make automatic repayments through preauthorized electronic fund transfers mandatory. Consumers must be given alternative methods to repay overdraft balances.
CARD Act Applicability: Hybrid debit-credit cards that access covered overdraft credit accounts must comply with credit card rules under Regulation Z, ensuring greater transparency and consumer protection.
Prohibits Compulsory Use of Preauthorized Transfers: The final rule removes an exception to Regulation E’s compulsory-use prohibition for covered overdraft credit.
Risks and Challenges for Smaller Banks
Although smaller banks are not directly regulated by this rule, its ripple effects cannot be ignored. Large banks are likely to reduce overdraft fees to comply with cost-based caps, setting market precedents. This could force smaller banks to follow suit, even if they are not legally required to do so, to remain competitive. For smaller institutions with less diversified revenue streams, such reductions might strain profitability and operational budgets.
Moreover, the CFPB’s evolving focus on fee transparency and consumer protections signals potential future expansions of these regulations. Smaller banks should evaluate the risks of over-reliance on fee-based revenues and consider strategies to adapt to a potentially tighter regulatory environment.
Preparing for the Future
Financial institutions of all sizes must view the CFPB’s rule as part of a broader trend toward consumer-centric reforms. Here’s what banks can do:
- Evaluate Fee Structures: Assess whether current fee levels are defensible under potential future regulations. Diversifying revenue sources could mitigate risks tied to fee restrictions.
- Invest in Compliance: Even institutions not currently subject to the rule should examine their compliance frameworks. Staying ahead of regulatory trends can be a competitive advantage.
- Educate Stakeholders: Use this opportunity to reinforce transparency with customers. Educating consumers about the cost of overdraft services compared to alternatives can build trust and loyalty.
Conclusion
The broad implications of this rule could pose difficult challenges to smaller banks as they strive to compete with larger institutions’ reduced fees. The banking trade groups have already filed a legal action to stay and strike the rule. It is also expected that Congress will take up this rule in the next Congressional session and a resolution pursuant to the Congressional Review Act (CRA) is expected. Clark Hill will continue to follow and monitor any developments.
