Yesterday the Federal Reserve enacted a rule, which would make it mandatory that banks allow customers opt-in to overdraft protection, rather than automatically enroll customers, as is the current practice. In other words, consumers would have a choice as to whether they get overdraft protection, rather than the banks choosing to enroll them without permission. In retrospect, I didn’t make the new rule clear originally. (Italiacs are an edit from the original version of the post).

This rule will go into effect July 1, 2010. As it stands right now (or at least a couple of months ago when I researched overdraft fees), most banks automatically enroll customers into overdraft protection.

When you’re enrolled in overdraft protection, if you make a debit card transaction and don’t have money in the bank, the transaction goes through, and you pay a fee..usually $30-$40.

If you don’t have overdraft protection, if you make a debit card transaction and don’t have enough money, the transaction is denied at the register. In essence, you can’t spend money that you don’t have.

The overdraft cycle, once started, can quickly sink someone who lives close to the edge financially. Especially in these economic times, there are lots of people living paycheck to paycheck. While I believe banks have the right to charge overdraft fees for covering overdrafts, I also believe consumers should have the option of paying for the “convenience” of having bad transactions covered or turning it down.

Don’t get me wrong. I think people should keep close track of their finances. If you don’t have the money, don’t spend it. Know how much money you have in the bank.

But the fact is that even the most careful people occasionally make mistakes. Occasionally companies make mistakes and wrongly debit accounts. Occasionally escrow refund checks bounce. I don’t think any of these reasons justify throwing a consumer into an unending cycle of overdraft after overdraft.

Understandably, the banks weren’t happy about these new regulations. Scott Talbot, chief lobbyist for the Financial Services Roundtable, said,

It radically changes and alters the overdraft services for consumers. The result will be confusion and embarrassment and frustration.

It’s true that a debit card transaction denied at the register might cause confusion, embarrassment, and frustration. However, I’d rather deal with the negative emotions and be alerted that my bank balance is lower than I thought, than pay a $40 fee and carry on, blissfully unaware.

What do you think? Is this new rule a good thing? Or is it too much regulation?