Abracadabra, Free Checking Disappears!

It may not be extinct, but if there was an endangered species list for financial products, free checking might be near the top. Bankrate's 2011 Checking Account Survey found that free checking, once an industry standard, is now offered by fewer than half of the nation's banks. Just 45% of noninterest checking accounts are free, down from 65% last year and 76% the year before.

If you're thinking that change may be a temporary consequence of the sour economy, think again, says Ajay Nagarkatte, managing director of Chicago-based BAI Research.

"Free checking is going away because the economic model (that) free checking survived on is no longer viable," Nagarkatte says.

New Financial Regulations

He says two big changes to U.S. financial regulations are taking their toll on free checking.

The first of these, Regulation E, went into effect last year and prohibits banks from charging customers for courtesy overdraft protection unless they "opt in." Banks had come to rely on massive inflows of overdraft fees to subsidize free checking for their customers, Nagarkatte says, and that income stream has been greatly reduced by the change.

"Free checking was essentially subsidized by the income from insufficient funds and overdrafts," Nagarkatte says. "The reality of it is banks cannot subsidize large portions of consumers. Many of these institutions have huge costs in physical networks, people and technology, and fraud management, etc., so they've got to recoup it."

While it hasn't taken effect yet, the Durbin Amendment, which requires the Fed to limit the interchange, or swipe, fees banks charge merchants to process debit card transactions, also has had an impact.

Lower Swipe Fees

"The average swipe fees that (banks) would get through both the PIN and the signature networks was a lot more for banks" than new limits will bring, Nagarkatte says. The Federal Reserve has capped swipe fees at around 24 cents per transaction, in a new rule that goes into effect Oct. 1. The current average for such fees is 44 cents per swipe.

Taken together, these regulations "have put a monkey wrench into the economics of checking. That's why you see a movement away from free checking," he says.

Even so, Greg McBride, CFA, senior financial analyst for Bankrate, says free checking isn't likely to go away entirely for consumers willing to jump through a few hoops to get it.

"Free checking on a standalone basis is declining, but that doesn't mean people are going to get stuck paying fees," McBride says.

Banks will still likely offer free checking for meeting conditions such as signing up for direct deposit or keeping a bigger checking balance.

"Banks are starting to integrate a variety of the types of products and services they want to capture as part of a broad relationship campaign. For those (who) have a lot of their wallet banked at a particular institution, essentially they will still get (checking) for free," Nagarkatte says.

McBride says finding free checking also may be as easy as shopping around, especially if you are currently with a banking giant.

"Those that have the biggest market presence have the most market power, so they don't tend to have the most competitive terms, particularly now that they're abandoning the free checking bandwagon," McBride says. "If you're looking for a free checking account, community banks, credit unions and online banks are the territory where you need to be."

The study's data come from surveying the five largest banks and five largest thrifts in 25 of the nation's biggest markets from Aug. 1-12, 2011. We asked those institutions about terms on one generic noninterest account and one interest-bearing account for the general consumer.