In today’s uncertain world, safeguarding your hard-earned money often depends on the financial products you choose. Many investments – like stocks, bonds, and cryptocurrency – are considered risky. By contrast, a bank account can protect you from both market volatility and even the unlikely collapse of your financial institution.
The security blanket for parking your money in a U.S. bank comes from the Federal Deposit Insurance Corporation (FDIC), an independent government agency that insures bank deposits.¹ FDIC insurance is backed by the full faith and credit of the United States government. Since it was established in 1933, no depositor has lost a single cent held in FDIC-insured accounts.² In the unlikely event of a bank failure, your deposits are automatically insured for at least $250,000 at each FDIC-insured bank.²
What can cause a bank to fail?
If you’ve been wondering “how safe are banks,” the good news is that bank failures are rare. Banks fail when they don’t have enough money to meet their obligations. This is called “insolvency” and can be caused by economic instability, poor management, or competition.
The financial system is much like a Jenga tower of interconnected blocks. Financial institutions are a central piece of an intricate economic framework. The health of banks depends not only on their management skills but also on the economy, sound management, and the ever-shifting sands of competition.
- Economic downturns: When the economy slows down, loan defaults and bad investments can hurt a bank’s financial stability. During economic downturns, borrowers can struggle to repay their debts.³ This can lead to higher defaults on loans and, as a result, losses for the bank.
- Poor management: Poor risk management can lead to significant losses if bank managers get too aggressive, and this strategy can increase the chance of bank failure.⁴ High-risk lending can backfire when borrowers default on their loans. Moreover, mismanagement of assets, like bad investment decisions, can leave a bank vulnerable to unforeseen shocks. Finally, there is the threat of internal fraud, which can undermine a bank’s financial health.
- Competition: Competition from other financial institutions can pressure banks to engage in risky behavior to stay afloat. Banks are under competitive pressure from other financial institutions. Banks might be tempted to offer high interest rates or make high-risk investments.
Even if a bank is solvent, it can fail if it does not have enough cash to meet its immediate obligations. Two examples of how this can happen are when there is a so-called “run on the bank” or when a bank’s assets aren’t liquid.
- Depositors panic: When depositors become overly worried about a bank’s stability, the rush to withdraw money is known as a “run on the bank.” If the bank does not have enough cash on hand to cover those withdrawals, it may be forced to close.
- Illiquid assets: Banks hold some assets, such as investments and loans, that can be difficult to sell quickly in an emergency. This can leave the bank short of cash when depositors demand it.
Government regulators will intervene when a bank is insolvent or fails. This limits potential damage to the financial system and helps to protect depositors. Understanding the various factors that can lead to bank failure can help you make informed decisions about where to deposit your money. In the unlikely event of a problem, most bank accounts are covered by FDIC insurance.
What happens if an FDIC-insured bank fails?
In the unlikely event of a bank failure, the FDIC is the primary safety net for depositors in the United States.
- Loss coverage: The FDIC insures deposits up to $250,000 per depositor for each insured account category in most cases. Savings accounts at banks are protected by the FDIC, along with other types of accounts. FDIC insurance covers traditional deposit accounts, including checking, savings, money market accounts, and certificates of deposit (CDs). Coverage is automatic when you open an account at an FDIC-insured bank. Deposit insurance is calculated dollar-for-dollar. That means, for example, if you have a CD account with a principal balance of $195,000 and $3,000 in accrued interest, the full $198,000 would be insured.⁵ The FDIC is required by law to make payments of insured deposits “as soon as possible” upon the failure of an insured bank.
- Bank takeover: If a bank fails, the FDIC first tries to facilitate the takeover of the failed bank by another healthy financial institution. This ensures a smooth transition and minimizes disruption for customers. When a healthy bank assumes a failed bank’s deposits, the branch offices usually reopen the next business day following the acquisition. At that time, you will have access to your deposits.
- Minimal disruption: Often, customers hardly notice the change after a failed bank is acquired by another financial institution. Their accounts remain accessible, and their bank may simply adopt a new name under the new ownership. If there is no acquiring bank, the FDIC works to find a nearby bank to temporarily take over direct deposit functions. This ensures that Social Security and other direct deposit payments are available to customers. If a failed bank is not acquired, the FDIC usually issues a check on the next business day to each depositor for their insured balance at the failed bank.
How secure are bank deposits?
Despite isolated bank failures in 2023, keeping your money in a bank remains a safe and practical choice. Here’s why:
- Strong regulations: Banks are subject to stringent regulations from the FDIC and other financial authorities, minimizing the risk of mismanagement and irresponsible behavior. There is a complex and multi-layered system of banking regulations in the U.S. designed to ensure the trust and safety and soundness of financial institutions, protect consumers, and promote a stable financial system. For example, Chime’s banking partners obtain and maintain security certifications like PCI compliance to ensure they are following regulations.
- Diversification: Banks spread their investments across various sectors and assets.⁶ By diversifying across different industries, regions, and loan types, banks can reduce the risk of losses related to any single sector or geographic area. Investing in different asset classes typically includes bonds, equities, real estate, and other investments to diversify income sources and reduce exposure to specific market downturns.
- Capital requirements: Banks are required to maintain a certain level of capital. This acts as a buffer against financial setbacks. Minimum capital requirements for banks help ensure they have sufficient financial reserves to absorb losses and maintain operations during periods of instability. Strong capital requirements reduce the risk of insolvency and protect depositors.
While the potential for bank failures exists, the safeguards in place are robust. Keeping your money in a federally insured bank within the coverage limits offers a far safer alternative than hiding cash under your mattress. In addition to security, you’ll also benefit from the ability to earn interest to help grow your nest egg while protecting it.
Preventing bank fraud
Vigilance is key whenever you open an account at a financial institution. To learn about the security measures put in place at Chime, visit our Trust and Safety page.
There are some practical steps you can take to protect your sensitive information, like enabling two-factor authentication, using strong passwords, being wary of scam tactics, and monitoring your accounts. Learn more tips to keep your bank accounts secure from bank fraud.
Ensuring peace of mind
The vast majority of banks are healthy thanks to prudent risk management, sound financial practices, and regulatory oversight.
Depositing your money in a federally-insured bank account is one of the safest places to keep money in today’s financial landscape. The FDIC’s protection, coupled with the safety requirements of banks, means your money is safe in the bank.
Financial education empowers you to make informed decisions and confidently navigate the banking world. Learn more about money trust and safety at Chime if you’re considering opening an account.
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