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What is a Bank?

While the question may seem elementary, the answer can be quite complex. Understanding what banking is all about will help you make better financial decisions.

A bank is a financial institution where you can deposit your money. Banks provide a system for easily transferring money from one person or business to another. Using banks and the many services they offer saves us an incredible amount of time, and ensures that our funds "pass hands" in a legal and structured manner. There are also other types of financial institutions that operate just like banks. We'll cover these later.

Why Do You Need a Bank Account?

With all the changes taking place in the banking marketplace today, you might ask yourself� Do I really need a bank? Why can't I just find a way to avoid all these fees? What types of accounts are available to me? It can be mind-boggling. There are many reasons why a banking relationship is vital:

  • When you deposit money in a bank, you have the comfort of knowing your money is in a safe, insured place. Deposits in most banks are insured by the Federal Deposit Insurance Corporation (FDIC). This means your money is protected up to $100,000 per depositor. You can also think of it as "out of sight, out of mind." If you don't have a daily visualization of your cash at hand, you'll probably be less tempted to spend it frivolously.
  • Most people and businesses, including your employer, need to have a paper trail to document transactions. Checks are a perfect way to keep a permanent record of business activities, even when they are personal. Even if you bank online, there is a well-documented trail of all your transactions.
  • Using a personal checking account can save you time and money. Imagine how much lost time, travel expense, inconvenience, and potential aggravation you could incur every month if you had to buy money orders or, worse yet, visit all your creditors in person. The ability to simply write a check and drop it in the mail is invaluable.

    For example, every time you need cash to pay a bill, you simply write a check to your creditor. Your creditor deposits your check in their bank. Your creditor's bank processes your check through the Federal Reserve Banking System (The Federal Reserve Banking System operates as the U.S. Central bank and, among other activities, provides banking services to financial institutions and the U.S. government), and the money is pulled from your checking account. Result�for very little effort on your part, your creditor gets paid.
  • The same principles apply to savings accounts. Establishing a savings account keeps your money safe while allowing easy access to it. Plus, you get the benefit of earning some interest on your balance and putting your money to work for you.

How Banks Operate

In addition to providing a safe place for your money, banks also loan money to businesses and consumers. A large portion of a bank's business is lending. How do banks get the money they loan? The money comes from depositors like you. Banks use these deposits to make loans. Every fee you pay to your bank enables them to reinvest in themselves, giving them more money to loan to you, for another fee, of course.

Banks are in business to make a profit. Their profit generally comes from the difference in interest paid to depositors and the interest earned on loans. Making loans helps banks make money, and offering checking accounts is a way to attract deposits, which banks turn into profitable loans.

Banks cannot legally loan all of their deposited money all at once. The Federal Reserve Board, which is part of the Federal Reserve System, requires that banks must keep a certain percentage of their deposits in reserve at all times, assuring you, the customer, can withdraw your money when you need to. The remaining funds, which are not subject to reserve, are used to make consumer loans. For more information about the Federal Reserve Board, visit www.federalreserve.gov.

Other Services Offered by Banks

  • Credit Cards
  • Personal Loans
  • Home and Car Loans
  • Mutual Funds
  • Business Loans
  • Safe Deposit Boxes
  • Debit Cards
  • Trust Services
  • Signature Guarantees

�and many other investment services.

Other "Banking" Organizations

You can obtain the services offered by traditional banks from other financial institutions as well. Savings and Loans or Thrifts, as well as Credit Unions, offer banking services that may fit your needs. The primary difference between various financial institutions is in the charters under which they operate and the regulatory body that oversees them. See the State of Wisconsin's explanation of the differences between banks, credit unions, and savings institutions. Generally, you can obtain the same or similar services from these institutions.

Today you can bank by phone, use Automated Teller Machines (ATM's) or log onto your bank's Internet site to handle most of your transactions in a secured environment, conveniently and safely. There are hundreds of banks, thrifts, and credit unions from which you can choose. As a result, there is increased competition for your business. This can be translated into great news for you! You have a wide array of products and institutions to choose from and can expect better fees for better services.

Take control of your finances with our debt help tools. Use our calculators and budget planner to help you manage your money.

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