(This article was originally published Aug. 15, 2010.)
It's easy to see how big money corrupts. Just look at the legacy of the financial collapse - how mortgage brokers made thousands of dollars on home loans they knew would never be repaid, and investment bankers made millions or billions on shaky mortgage derivatives that brought us to the brink of Great Depression II.
But occasionally we get reminders that small money can corrupt, too - especially when it adds up. For evidence, look no further than a decision last week by a federal judge in California who pulled back the curtain at Wells Fargo Bank and found a multiyear campaign to boost revenue from overdraft fees that he said amounted to "gouging and profiteering."
Under new Federal Reserve rules, Sunday is when banks across the country will have to quit doing a key part of what Wells Fargo did to tens of thousands of unwary debit-card users in California.
Unless you have opted in to what many banks call their "standard overdraft practices," your bank will no longer be able to routinely approve transactions for which money is unavailable, then charge you a fee for the dubious favor - the origin of the now-infamous $37 cup of Starbucks coffee.
If your bank asked you to opt in and you did nothing or said "no, thanks," your debit card may work a little differently than it did last week. You may get a "transaction declined" when you try to take cash from an ATM, or have your debit card refused at a gas station, restaurant, or grocery store.
But if you find the refusals frustrating, remember that regulators have finally done what they should have years ago: told banks that they can't continue practices plainly designed to gin up overdraft fees.
Now, thanks to U.S. District Judge William Alsup, we know exactly what "standard overdraft practices" amounted to at one major U.S. bank, and the machinations behind them.
If you've ever wondered whether a bank or business might be manipulating its rules to dun you with extra nuisance fees, and then wondered whether you were being just a wee bit paranoid, Alsup's ruling is a Joseph Heller-esque demonstration that paranoid people can get rolled, too.
The gold mine in fees
A funny thing happened in the payment market in the 1990s, as more and more banks decided to push Visa and MasterCard versions of the ATM cards they began issuing in the '70s and '80s.
The new cards were usable anywhere that Visa and MasterCard credit cards were accepted, and they could be issued to nearly anyone with a checking account - no credit check necessary. As the banks explained it, you were simply paying with money from your own account, just as you would with an old-fashioned check.
The system had its flaws for consumers, including increased security risk because no PIN code was necessary. But banks such as Wells Fargo loved them, because of the extra revenue they generated from merchant fees.
Then they recognized a second gold mine in the cards - the story that Alsup tells in his 90-page ruling that also orders more than $200 million in restitution and that Wells Fargo plans to appeal.
Even as Wells Fargo was warning customers that "the money comes right out of your checking account the minute you use your debit card," it was doing something else entirely behind the scenes - something cynically designed to boost revenue through a process it called "Balance Sheet Engineering."
Wells Fargo targeted account-holders it called "ODRI customers" - ODRI, for "overdraft" and "returned item" - and particularly the 4 percent of ODRI customers who "supplied a whopping 40 percent of its total overdraft and returned-item revenue."
To maximize its returns, Wells Fargo made three key changes nearly a decade ago.
First, it swapped the order in which it cleared its ledgers each night, to pay the largest items first. Then it mixed together debit-card transactions with checks and automated-clearinghouse (ACH) transactions.
Those two changes alone were costly for customers who ran short of money. Rather than owing a single overdraft fee for one large check, they could owe multiple fees - up to 10 a day, under the bank's rules at the time.
But the final change may have been the shadiest, and it was aptly named "the shadow line."
A hidden line of credit
The shadow line was a secret line of credit that made a mockery of the notion that debit cards weren't extensions of credit - a claim that spared the banks from such niceties as observing the Truth in Lending Act.
Each time the bank's computer system was asked to OK a transaction, the system performed a secret "risk assessment" if money was unavailable, much like an instant credit check.
If you were at the checkout counter, you'd never know this was under way or get any inkling that you were short of money. And Wells Fargo was happy to keep you in the dark, knowing that the shadow line would shine brightly on its balance sheets.
Alsup found that Wells Fargo clearly knew the changes would boost its overdraft revenues, and overruled at least one executive who warned against the effect.
Later, that same executive worried about a brief dip in overdraft revenue, until he realized it was linked to a spike in tax-refund checks. Whatever Wells Fargo claimed about how it wanted to discourage overdrafts, it had engineered a system that would maximize them and grew increasingly reliant on the revenue stream that resulted.
"Wells Fargo constructed a trap," Alsup wrote. "It then exploited that trap with a vengeance, racking up hundreds of millions off the backs of the working poor, students, and others without the luxury of ample account balances."
Each fee may have amounted to no more than $35, but they added up, as did the evidence that small money can corrupt, too.