Even though we utilize our bank account every day, we may not realize how banks work. Have you thought about how banks make money, with the free ATM services that they render and the interest they pay to their depositors?
You have to accept the fact that banks are businesses and making a profit is their priority. Like any business, banks leverage on revenue streams and expenses for them to grow.
Fundamentally, banks don’t make money until they have your cash, attracting and retaining customers is key for banking establishments. This is the reason they offer referral and sign-up gifts, and give benefits to high-esteem customers.
Are you wondering how a bank works? How do they generate revenue? All answers to your questions are written below, please read on.
- 1 What Is a Business Model?
- 2 Types of Banks
- 3 Types of Bank Accounts
- 4 How Banks and the Banking Industry Work
- 5 How Banks Make Their Money
- 6 Conclusion
What Is a Business Model?
The Business model of Banks refers to the Bank’s plan and systems of generating income. It identifies its target markets, products, and services to sell.
Banking systems are a notable part of the economy. They set up systems for people to make investments, borrow money for their business, pay bills, and save for future purposes.
Types of Banks
Different banks serve different purposes. So, it is advisable to learn how a bank works before doing business with them. Below are different types of banks and how they operate.
#1. Retail Banks
They give basic banking services, offer mortgages and personal loans to individuals. Retail banks relate to a bigger bank that provides services to commercial customers.
#2. Private Banks
They provide financial services to specific audiences. They are owned by either an individual or a small group of individuals.
#3. Central Banks
Central banks perform governmental functions more than other banks. They enable their country to satisfy the world’s overarching financial goals. They do this mainly by regulating economic policy and utilizing the supply of currency.
#4. Mutual or Cooperative Banks
They offer both commercial and retail services. Their difference is that customers own part of the bank. The answer to both the nation’s banking rules and their customers’ vote.
#5. Investment Banks
Investment banks help large organizations to manage financial tasks. Investment banks serve as middlemen and advisers for governments, large corporations, and other financial institutions.
Their basic functions include; helping businesses to provide securities to their customers, generating money for development, and more.
Types of Bank Accounts
Saving accounts, money market accounts, checking accounts, and CD accounts are largely choices for saving cash, though each of them works differently.
#1. Saving accounts
Permit you to save cash you don’t want to spend while making it accessible. You can get access to your account at the Atm, branch, or online.
#4. A checking account
This type allows you to pay bills, deposit, and make purchases by using a debit card or writing checks. At the point when you make use of your debit card or utilize your ATM card to withdraw, that exchange must be supported by your bank before it processes.
#3. Certificate of Deposit(CD) accounts
CD accounts are deposits that come with interest over some time. Basic CD terms can range from a period of 1 month to 60 months. It’s feasible to discover CDs with terms up to 10 or 20 years.
If the term is longer, the higher the loan fee you can procure. If you withdraw money before the CD set date, you will be charged a penalty from the bank.
#4. Money market accounts
Money market accounts can acquire interest like that of a savings account but the withdrawal alternative is like a checking account.
For instance, you might have the option to compose checks, make withdrawals using your ATM, or utilize your debit card to make purchases. Banks can limit the withdrawal you make using your savings account monthly.
How Banks and the Banking Industry Work
Banks, regardless of whether they be physical establishments or online, deal with the progression of cash among individuals and organizations. And most especially they secure your money.
Banking is a highly regulated system. Banks are overseen by the Federal Reserve System and other Financial organizations. Their work is to regulate and ensure banks keep the appropriate guidelines.
How Banks Make Their Money
The two major ways banks make their money is through interest income and Fee-based income.
1. Interest Income
The primary way most banks make their money is through interest income. How does it work? Banks get money from their depositors and loan it out to the borrowers who need it.
The borrowers in return refund the money at a higher interest rate. The bank pays a small percentage of the interest made from the borrower to their depositors.
Central banks set up a regulatory system for the interest rate to control inflation, and ensure a healthy economy.
Banks benefit by having the option to pay a low interest rate to their depositors and collect a higher interest rate from their borrowers.
There’s a possibility that the borrower has the potential of defaulting on the loan if they don’t manage their credit risk. Banks benefit more when interest rates are high.
2. Fee-Based Income
Fee-based income is another means through which banks make money. Another source of revenue for banks is the products and services they provide.
This type of revenue is steady over time and it usually doesn’t fluctuate.
Below are different ways banks make their money by the services they render.
- Account: banks always charge maintenance allowances for some of their financial products such as investment accounts, Credit cards, and checking accounts. So, they make a lot from it.
ATM fees. If you misplace your AtM card, you have to go to the bank to get another, and it is going to cost you some amount of money to get one, and when it happens, the bank will get more money.
- Penalty Charges: whenever you fail to do what you are meant to do on time, you will be charged a penalty fee for it. It could be making a Credit card payment late or writing a check that is higher than what you have in your checking account.
- Commissions: most banks will have speculation divisions that frequently work as full-administration financiers. Their bonus charges for making exchanges are higher than most rebate intermediaries.
- Application Fees: banks charge their borrower application fees whenever they apply for a loan. They can incorporate this fee into the capital of your loan, which means you will pay interest for it.
- Account maintenance fee: bank charges your account monthly for keeping it open. They are avoidable fees, when choosing a particular account or bank, you need to consider this factor.
- Dormancy Fees: bank charges you for any account that is inactive or you don’t use often. Consider this, before you open an account that you might not use often.
- Insufficient Fund Charges: bank charges you for spending beyond what is in your account.
- Withdrawal Fee: having excessive withdrawal from your savings account will generate a bank charge. These few are ordered by the federal government.
- Paper Statement Charges: opting in for a paper statement can cause more charges than the online statement thereby generating revenue for the bank.
- Interchange Fee: when purchasing with your credit or debit is free, but back charges the store or merchant’s bank a percentage of your transactions. Stores add up the charges on their goods before selling them out.
Banks have different ways of making their money. With the fees, interest and some other funds, banks generate a lot of profit which they channel productively and efficiently.
Banks have been the great foundations behind the productive economy witnessed all over the world.
The development witnessed all over the world has been stimulated by the business model of banking systems through efficient management, improvement and channeling of economic transactions.