Book Review - The London Guardian (US Edition)

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The London Guardian (US Edition) – 10/25/2015


RushCard Disruption Reveals Why Prepaid Debt Cards Should Not Exist At All -- Thousands of customers were unable to access their money, but observers say it is the banking industry that has stopped serving those who are ‘too poor’

Review By Suzanne McGee -- Financial journalist and the weekly columnist for Money US. She's also written for The Wall Street Journal, Barron's, The Financial Times The Institutional Investor and, now, The Guardian.



It’s a sad truth of American life that the poorer you are the more you pay for banking. And as thousands of Americans have discovered this month, it can also be very perilous to live outside the mainstream banking system. But there may be a solution on the horizon – one unused since the 1960s.

Thousands of holders of one of the most popular prepaid debit cards in circulation, the RushCard, founded in 2003 by hip-hop mogul Russell Simmons, found themselves unable to access their funds for the better part of two weeks. Blocked from buying groceries and medication, getting hold of cash they needed to pay their rent or purchase gas for their cars, they have been venting their fury at both the card and the organization on social and traditional media.

There are certainly plenty of reasons for RushCard’s holders to be livid, especially given the initial vague response: the company blamed a “technology transition”, while Simmons himself simply said he was “praying” for those affected, in a since-deleted tweet.

But this isn’t a problem limited to RushCard. The Pew Charitable Trusts reported in June that about 23 million Americans use prepaid cards such as RushCard regularly, up about 50% between 2012 and 2014, with many treating them like bank accounts and having their pay checks directly deposited to the card. That backfired badly when those direct deposits went through, only for cardholders to find that their money is now in limbo, inaccessible.

It’s not the first time that a prepaid debit card backed by a celebrity and marketed directly at the financially most vulnerable segment of Americans has encountered flak. Last year, Suze Orman and Bancorp Bank shut down their Approved Card project, a two-year-old venture that differed from some of the prepaid rivals in that Orman had convinced TransUnion, one of the big credit rating agencies, to look at the data collected from cardholders. Part of the card’s marketing pitch was that this might be a way for Americans with poor credit to rebuild their all-important FICO scores. Not only did that not seem to happen, but the layers of fees left many observers shaking their heads in disbelief: the $3 initial monthly fee might seem lower than rivals, but by some calculations, the minimum annual cost to use Orman’s product for a typical “unbanked” American came closer to $81.

Still, for some observers, the real problem isn’t with prepaid debit cards, but with the reason they exist at all, and the reason so many millions of Americans are flocking to them, and treating them as (costly and high-risk) alternatives to plain vanilla checking accounts at ordinary banks.

“For many individuals, using one of these cards is a rational choice,” argues Mehrsa Baradaran, associate professor of law at the University of Georgia, and author of a new book, How the Other Half Banks, published by Harvard University Press. “As the banks are set up currently, the fees they charge are meant to dissuade small accounts, or accounts by people whose incomes are minimal and very uneven.”

As Baradaran writes in her book’s introduction, the banking industry has stopped serving those who are “too poor to bank”, pushing them into the arms of non-bank service providers to provide the most basic services: to cash pay checks, pay bills or transfer money. In exchange, she calculates that they fork over up to 10% of their income for these services.

In some cases, they don’t have an option: a bank may refuse to open an account for them. And banks have long been trying to “discourage” their smaller customers: fees on accounts where balances dip below a specified level even briefly can look extremely costly to a low-income household.

It’s the uncertainty that is particularly pernicious, says Baradaran, and that ends up propelling many former bank customers to prepaid cards. “At the bank, you have to a stable amount of money in the account to manage the costs well,” she explains. “If you can’t do that, you can’t predict how much you’ll end up paying in fees or overdraft charges, and they’ll pile up. So people opt out of the system, because with the prepaid cards, the fees are spelled out clearly, up front, and they’ll say, well, at least I know what they are, and I pay them as I incur them.”

There’s also a psychological element. Even if it’s cheaper to pay one $35 overdraft fee every six months than a bunch of $3.95 reload and transaction fees, Baradaran notes that customers are more comfortable paying transaction costs than anything that they see as a penalty, or punishment. “They become angry or resentful.”

Baradaran is scheduled to testify to the Senate Banking Committee next week on her book’s big idea for fixing the whole mess on 4 November: a return to postal banking, which at its peak, just after the second world war, had four million users and $3.4bn in assets. It is, she argues, a middle way – striking a balance between the potential for abuses and the mistakes of payday lenders, check cashing shops and the prepaid card industry, on the one hand, and the apparent reluctance of the banking industry, on the other, to lose money serving the least affluent and least profitable segment of US populace.

Most of us can’t recall the last time the US post office last offered banking services, other than selling us a money order, if we need one. Community banks and credit unions drove it out of the business back in the 1960s, by being able to offer higher interest rates than the 2% maximum that the post office legally could provide depositors. In 1966, the 55-year experiment with postal banking ended.

So, why bring it back?

Easy, says Baradaran. With a bricks-and-mortar infrastructure already in place in most of the neighborhoods already underserved by traditional banks, the post office wouldn’t have to develop a costly new infrastructure. “In some rural areas, the only places that people can go to are check cashing outlets or payday lenders – but they also have a post office,” she says. It consistently ranks high on the listed of trusted companies and remains the most trusted government agency (the latter, admittedly, not being a high hurdle).

“We may see them as a bit of a dinosaur, but we don’t see them as being a shark,” says Baradaran of the USPS. “They’re not going to screw you.”

Baradaran argues that we find ourselves in the same kind of environment that prevailed in 1910, before the original postal banking system was created, and she isn’t dissuaded by the apparent ignorance of some legislators of its very existence. At a recent conference, she says, California Republican congressman Darrell Issa commented dismissively that the United States isn’t Denmark or Belgium, and shouldn’t care about “Belgian solutions”. “He just didn’t seem to be aware that postal banking was first proposed here in the 1870s,” she says.

Two high-profile figures do support Baradaran’s idea: Democratic presidential candidate and Vermont senator Bernie Sanders, and Elizabeth Warren, the Democratic senator from Massachusetts and architect of the Consumer Financial Protection Bureau, which has been pushing for additional protections for holders of prepaid cards such as RushCard.

The CPFB’s attempt to bring order to the system is laudable, but it would be better to at least open up the postal banking experiment. While Baradaran would like to see that include lending (at least in small sums of, say, $500), the fact is that most of the “unbanked” are most in need of basic banking services: savings and checking accounts, rather than loans; indeed, the Pew Report suggests they’re trying to use prepaid cards to avoid debt. So, starting out with the plainest vanilla of products would make implementing the plan easier, and minimize the strain on the agency’s resources, too.

If we’re going to push forward beyond regulating and criticizing the system that exists – the banks and the businesses that have sprung up to fill the void that the banks’ reluctance to serve certain groups has created – than we need to think creatively about a cost-effective way to serve, equitably, a large and growing proportion of the American population, rather than stripping them of 10% of their income just in order to access the money they’ve earned.

“If we don’t have the public will to force the banks to do it, then maybe it’s time to try something else,” says Baradaran.

Let’s hope the Senate banking committee is listening to her next month, with open minds as well as open ears.