ING offers interest on online checking

NEW YORK (CNNMoney.com) -- Online banking pioneer ING Direct helped transform the banking industry through its high-yield savings accounts, sparking a wave of copycats competing to attract tech-savvy consumers eager for a higher return.

Now the innovative virtual bank is looking to lure more customers from traditional brick-and-mortar banks through another offering: high-yield checking accounts. But will investors go ga-ga over the chance to earn more on money usually set aside to pay bills anyway?

Industry experts are skeptical.

"A savings account is a very important model for banks because it's a force for gathering deposits," said Madhavi Mantha, senior analyst at independent consulting and research firm Celent LLC. But checking accounts are less important - and less profitable - for banks, which usually use them to try to then sell other products to customers.

Consumers generally don't keep large amounts of cash in their checking accounts, making the lure of higher returns modest, analysts said.

"If you have a couple of thousand dollars sitting idle in a checking account, you may make $30 a year," said Asaf Buchner, analyst at research and consulting firm Jupiter Research. "That doesn't outweigh the fact that people still want branches for more complex activities."

But ING Direct CEO Arkadi Kuhlmann, who spearheaded the bank's high-yield savings accounts, said the widespread adoption of the Internet has pushed consumers who were once willing to settle for any return to demand more from their financial institutions.

When it comes to deposits, traditional banks are already tripping over themselves by offering perks like free checking and higher yields on savings accounts. Given the competitive pressures, Kuhlmann said online high-yield checking accounts are a natural next step in the banking industry's evolution.

"You've got pressure on bank margins, declining savings rates, low interest for all kinds of lending products and every bank is trying to grow organically," Kuhlmann said. "Checking accounts are going to be paying much more interest than in the past. It's a value proposition."

And if early consumer response is any indicator of success, then ING Direct - a unit of ING Groep NV (Charts) of the Netherlands - may be on to something.

Kuhlmann said ING Direct's new product - known as Electric Orange in keeping with the company's use of the color in its marketing - has attracted over 60,000 new checking accounts in just over two months, bringing in more than $2.2 billion in new deposits. ING Direct has some 4 million customers and $60 billion in assets.

Financial research and consulting firm Celent estimates that $120 billion in deposits were gathered online as of the end of 2005 and expects that figure to more than triple to $380 billion by 2010.

Electric Orange allows checking customers the opportunity to pay bills online, access money through a MasterCard-branded debit card for free at 32,000 locations nationwide, send money through free electronic checks and provides free overdraft protection. And any money that sits in the account up to $50,000 earns a 3 percent yield. For checking balances beyond $50,000, consumers can earn up to 5.3 percent in interest.

He added that other banks are likely to go down the same route in order to remain competitive.

Some traditional banks are already jumping on the band wagon. HSBC Direct, the online arm of international bank HSBC (Charts) which recently raised its yield to 6 percent for new online savings accounts, is planning to launch a high-yield checking account in the first half of 2007.

HSBC spokesman Stephen Cohen said details are still being finalized and he declined to comment on what kind of yield would be offered. Currently, HSBC consumers earn 0.15 percent interest on their regular checking accounts.

E-Loan, which already provides online savings accounts, plans to branch out into checking later this year.

Citigroup's (Charts) Citibank Direct offers online checking, although it's not a high-yield account, said Citi spokesman Rob Julavits. Other banks with high-yield online savings include Capital One (Charts) and Emigrant Bank's EmigrantDirect. Neither offer high-yield online checking.

While online banking is becoming more popular, paving the way for innovations like high-yield checking, analysts aren't expecting consumers to abandon traditional banks any time soon.

According to a report by Jupiter Research, nearly half of U.S. households will use online banking by 2011, up from 36 percent in 2005. Jupiter Research's Buchner said while consumers may prefer to check statements and pay bills online - all standard options in ING Direct's checking account - they still prefer to open accounts and shop for complex products like mortgages in branches. Some consumers also prefer depositing checks at branches, he said.

ING Direct's checking account currently doesn't allow consumers to deposit checks at ATMs. Instead users can either choose to direct deposit checks electronically into their online accounts or mail it in to the company - a slower process.

And if online checking accounts do catch on the way online savings accounts have, some analysts think traditional banks may have an advantage over ING Direct's virtual model.

"Cost of funds may actually be lower for some of the (traditional) banks because they have other lending products they can leverage," said George Tubin, research director at research advisory firm TowerGroup. "ING Direct started out as only a savings product and they've realized that's not a winning formula so they've expanded out to other product lines."

And if a price war for high-yield online checking begins, then ING Direct - once the market leader in offering high-yield products - may find itself outshone by competitors.

Still, ING Direct's Kuhlmann said the company isn't worried about being the provider with the highest yield in savings or checking accounts. The company will make money off card activity as well as any interest incurred on the account's credit line, he said.

And it's still coming up with innovations such as a high-yield online savings account for small businesses, due to launch in April. "We never said we'd have the best rate always," he said. "We tend to look at providing consumers with an ongoing steady proposition."

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