Direct Deposit to Bank Account - Handle With Care!

Oct 25, 2012: First of all let's try this pop quiz:
Can anyone take out money from your bank account without your permission?
You must be thinking "How on earth can that can be?" The next thought might be "Are these folks crazy?" Ahh...m, please read on to find out the truth!

What is a direct deposit?

Direct Deposit?A direct deposit is a way of directly depositing a pay check into your bank account by your employer. Most employers provide this convenience to their employees. In some companies direct deposit is the only mode of paying salary to their employees.

Some companies may allow direct deposit of a pay check into multiple bank accounts. For example, one of our employers allows us to designate up to three bank accounts for direct deposit of salary. Consequently the paycheck can be split into three parts for deposits in three bank accounts. This feature has its own set of advantages.

Merits of Direct Deposit
  • Pay check is guaranteed to be available in the bank account on the payday. This assurance helps us plan and pay our bills on time.
  • No action necessary on the part of the employees, it's hassle free.
  • It is swift, there is no delay in getting the salary.
Anything wrong with it?

Cheated with Direct Deposit?Kindly allow us to share an incident with you. Several years ago an acquaintance of ours made a shocking discovery. One fine morning her checking account was depleted of several thousands of dollars. Her regular pay check used to get direct deposited into that particular checking account.

Further inquiry revealed that her money had been electronically withdrawn by her employer!. She had been laid off from her job. Apparently she owed some money to her employer. Her employer had simply and conveniently taken the money out of the checking account. No notification, no email, no phone call, no courtesy - neither from her employer nor from the bank!

How frustrating and unethical! She was literally horrified. When she narrated the incident to us, it was a shocking experience for us. We wondered how could someone take out our money without our authorization? Further, isn't direct deposit supposed to mean deposit only?

It turned out that we all had a naive understanding of direct deposit. Our friend contacted her bank to know more about the details of direct deposit and the unethical withdrawal of funds from her account. Her findings were worrisome.

The truths
  • Truths behind Direct DepositWhen we sign a form and authorize a direct deposit, we are in fact giving permission to our employer to do both: deposit as well as withdrawal!
  • Once we have authorized the employer to do a direct deposit, the bank is not legally obliged to notify us of any such direct transactions.
  • To the best of our knowledge there is no limit on the number of transactions that can be made by the employer.
  • There is also no limit on the total amount that our employer may withdraw or deposit (not that we mind the deposit part). So potentially the entire balance in our checking account could be wiped out by our employer!
This really blew our minds. We were gravely concerned. Imagine this - say erroneously our entire checking account balance was withdrawn by our employer. The result would be a painful domino effect. We could be charged a chain of fees for insufficient funds, bounced checks, late payments, failure to pay minimum amounts due, possible credit rate increase and more, in short a nightmare!

What can we do?

Protect ourselves from risks of Direct DepositSince our salary checks are direct deposited into checking accounts, we seriously thought about the issue and devised the following strategy to mitigate risks:
  • Open a checking account that has absolutely no account fees whatsoever, no inactivity fees and no minimum account balance requirements.
  • Has a free ACH transfer feature.
  • Interest rate is not a metric. Even if the checking account pays no interest, we really don't care.
  • Authorize all salary payments to be direct deposited to this checking account.
  • As soon as a paycheck gets deposited at end of each pay period, do an ACH transfer to other high yield savings and checking accounts.
So far this system has been working smoothly for us. Since almost all our money is promptly transferred out of our direct deposit checking accounts, there is no possibility of real damage due to surprise withdrawals by our employer(s).

Our friend's experience drove home the lesson that there is a price for every convenience! What are your suggestions about dealing with these type of situations?

Image Source(s): iStockPhoto