Bank of America Will Find a Way to Charge You (Update 2)

(Bank debit fee article updated with news on Bank of America fee withdrawal)

NEW YORK ( TheStreet) - Bank of America ( BAC) has dropped its proposal to charge customers a monthly fee of $5 for debit-card purchases after furious customers threatened to take their business elsewhere .

The about turn may be a victory for Occupy Wall Street protesters .

On Friday, Wells Fargo ( WFC) announced it was canceling a test program in which it was charging debit card users $3 a month.

JPMorgan Chase ( JPM), Citigroup ( C) and PNC Financial ( PNC) have also said they will not charge the fee.

But consumers' elation will be short lived.

That's because banks will simply move the cost to another area of the retail network, by killing free checking or adding fees to consumer loans, according to industry watchers.

Bank of America

Banks are seeing a potential $30 billion annual revenue loss in their payments business as new regulations restrict fee income and shrinking spreads hurt margins on checking accounts, according to consulting firm Novantas.

"The sad but honest truth is that free checking was supported by interest rates and fees. Both those options are not available to banks now," said Hank Israel, partner at Novantas.

According to Israel, the cost of providing a basic checking account is $15 to $20 per customer per month, if you factor in all costs for providing ATM and other services at branches.  

Banks previously used the fees they charged merchants to pay for the costs, allowing customers to have free checking accounts.

But the Durbin Amendment under the Dodd-Frank legislation limits the amount banks can charge retailers for processing debit-card transactions to 21 cents from an average 44 cents previously. Other regulation changes that affect overdraft coverage and credit card charges have also hit fee income.

And with a prolonged period of low interest rates, banks have few alternatives to generate revenues that will allow them to continue offering free checking accounts while forgoing increased debit fees.

At prevailing interest rates, Israel say banks will need customers to maintain higher average balances to justify free checking. If a bank earns a spread of 75 basis points on checking accounts, a back of the envelope calculation suggests that the average checking account customer should have an average balance of $24,000 a month in order to justify the costs of free checking, from a bank's perspective.

"A very small percentage of checking account customers carry such high balances," said Israel.

That is why banks are more inclined to waive fees for customers who carry higher balances than those who have deposits of say $800 and are less profitable.

Meanwhile, credit unions and community banks are profiting from the moves by large banks to charge these fees. But according to Israel, it is not quite clear whether community banks can make the economics work.

"Community banks operate on the same economics that large banks do and in some cases they have it even worse," says Israel. "For large banks most of the costs are fixed. For community banks, the incremental cost of serving an additional customer is higher."

Banks have to figure out a way to provide a holistic service to customers that they will value and pay for, according to Israel.

Customers opposed to such fees might have to forego the age-old comfort of going to the bank teller and adopt less convenient forms of banking such as using self-service kiosks or be more comfortable with online banking, he says.

-- Written by Shanthi Bharatwaj in New York.

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Disclosure: TheStreet's editorial policy prohibits staff editors and reporters from holding positions in any individual stocks.

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