Banking Definition: What Is Banking & How Does It Work? (2024)

What Is Banking?

Banking is the business of protecting money for others. Banks lend this money, generating interest that creates profits for the bank and its customers.

A bank is a financial institution licensed to accept deposits and make loans. But they may also perform other financial services.

The term “bank” can refer to many different types of financial institutions — including bank and trust companies, savings and loan associations, credit unions or any other type of institution that accepts deposits.

Why Use a Bank in the First Place?

Security

Banks protect your cash from theft and natural disasters like fires or floods. Your insurance may not cover money lost in your home, car or on your person. But banks don’t typically carry the same risk.

Insurance

Banking security is more than just vaults and guards. Most of your assets are federally insured up to $250,000 by the federal government if the institution fails. The FDIC (Federal Deposit Insurance Corporation) insures assets in banks and the NCUA (National Credit Union Administration) insures assets in credit unions. Federal laws also require institutions to maintain minimum levels to help them remain solvent.

Convenience

Banks allow you to access your money when you need it. They can also provide “one-stop shopping” for financial needs from investments to home and auto loans, along with other financial services. Convenience, along with interest rates and low fees, are major selling points for banks.

Services to Grow Your Wealth

Banks offer many services that can help you grow wealth. These include high-yield checking or savings accounts, individual retirement accounts (IRAs), self-directed 401(k) plans and certificates of deposit (CDs).

New to investing? Learn more with our comprehensive guide: Investing for Beginners

Types of Banks

There are several types of banks, typically grouped into a category based on the type of business they perform. Banks in a certain category offer similar services.

Some banks may focus on consumers while others focus on investments, corporations or other sectors of financial services. Whether you are looking to manage your personal finances or grow your business, here is a list of common types of banks unique to every need.

Common Types of Banks

Retail or Consumer Banks

Retail banks — also known as consumer banks — offer banking services to the general public. These include checking, savings and retirement accounts along with consumer loans — such as home and auto loans.

Credit Unions

Unlike most banks which strive to make a profit for shareholders, credit unions are not-for-profit institutions that accept deposits and make loans. They are owned by their members, passing any earnings back to their membership instead of shareholders. Credit union membership is usually limited to people who work or live in a certain area.

Savings and Loan Associations

Also called thrifts or S&Ls, savings and loan associations focus primarily on helping people become homeowners. Federal law limits the types of loans and commercial accounts S&Ls can take part in. But they may offer higher interest rates to depositors to raise money for mortgage loans.

Commercial Banks

Commercial banks are standalone institutions or departments within a bank that focus on corporate, government, small business or nonprofit customers. They tend to specialize in financial products and services tailored to the needs of these large entities.

Community Development Banks

Smaller than commercial banks, community development banks — also called CD banks — focus on their local community. They are typically created to provide financial services including deposits and loans in underserved communities.

Investment Banks

Investment banks provide complex financial services to clients, such as corporations, large nonprofits, pension funds and governments. Services may include working as an intermediary in mergers and acquisitions or handling the work needed for a client to take their company public.

Online-Only Banks

Online banks — also known as virtual banks or “neobanks” — provide e-banking services via websites and apps. While traditional banks have digital services, online-only banks have no brick-and-mortar branches. This cuts overhead, allowing the online bank to pass savings to customers.

Check out our list of the best savings accounts for kids and teens in 2023

Typically, all types of banks act as a go-between — connecting people who want to put their money somewhere safe with people who want to borrow money. Banks attract depositors with the promise of paying interest or other incentives and turn a profit by charging interest rates and fees to the people who take out loans.

Typical Services Banks Offer

Different types of banks provide different services tailored to their customers. There are some relatively common banking services and products that are both tailored to individuals and widely available through virtually all consumer banks and credit unions.

Common Banking Products and Services

Checking Accounts

One of the most common consumer banking services, checking accounts allow you to store and manage your money, so you can pay for goods and services directly from your account. It can be tied to direct deposits, ATM or debit cards.

Savings Accounts

A savings account allows you to separate money you want to accumulate from money you want to spend. This service lets you to build up money for some goal while still giving you quick access to the cash in the account if you need it.

Certificates of Deposit

A certificate of deposit — or CD — allows you to put money in an account for a specific amount of time from six months to five years. A CD typically pays a higher interest rate than a standard savings account.

Money Market Accounts

A money market account allows you to earn higher interest rates than traditional savings accounts. However, they may require a minimum deposit and require you to maintain a minimum balance. Money market accounts typically come with FDIC or NCUA insurance protection, debit cards and check writing abilities.

Loans

Consumer banks provide several different types of loans. These include personal loans to cover unexpected expenses, auto loans, home equity loans and personal lines of credit.

Debit Cards

Debit cards are connected to your checking account, allowing you to swipe the card at a business and pay for goods or services directly from that account. They may be more convenient than carrying cash, but you may be on the hook for charges to the card if it’s lost or stolen. Check with your bank about its requirements.

Credit Cards

Banks issue credit cards to allow you to make purchases on a line of credit. You borrow money from the bank each time you use the card, with the promise of paying it back. You pay interest on these charges unless you pay your credit card fee in full each month. You may also pay a fee to use the card.

How to Choose a Bank

Choosing a bank that’s right for you depends on the type of financial services you need, the interest rates the bank pays you for deposits, the interest rates it charges for loans or credit cards, other fees and overall convenience.

Things to Consider When Choosing a Bank

Services You Need

Know what financial services you want from a bank and focus on banks that provide that type of service or offer the financial product you’re looking for. For most individuals, that may mean a commercial bank, but also consider a credit union if you qualify for a membership in one.

Fees

Look for low or zero fees. Fees can vary widely depending on the type of banking product or service, as well the bank. Typical fees include monthly maintenance fees for each account, credit card fees, ATM fees, overdraft fees, early withdrawal fees for CDs, overdraft fees if you spend more than is in your account and fees for other products or services. Check on all potential fees before you open a newaccount.

Location

Make sure the bank has locations convenient for you. Find out if it has branches near where you live, work or travel frequently. Check to see if it has ATMs where you need them, so you can avoid ATM fees. Also, consider how convenient an online-only bank may be for your lifestyle.

Reputation

Read reviews of the banks and credit unions you’re considering. Compare ratings on customer service and whether you’ll benefit from the products and services they offer. Most people typically stay with the bank they choose for a long time. Make sure it’s a good fit.

Please seek the advice of a qualified professional before making financial decisions.

Last Modified: November 14, 2023