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Updated on Tuesday, April 15, 2014
First, I must confess that I love bank branches and always have. As a child, I used to enjoy going with my mom to the bank. The people were friendly, the lollipops were tasty and I had a real sense of accomplishment when I could deposit a roll of coins. My affinity for bank branches makes this article particularly difficult for me to write, but it contains good news for all of you out there who would rather do anything else other than go to a bank branch.
You can finally switch to internet-only banks and put hundreds of dollars back into your pocket. Real choices finally exist. In fact, after doing the research on the best bank accounts for MagnifyMoney, I switched to Ally (both checking and savings account). And I doubt I will ever go back to branches. (Note: I have not been paid by Ally, and they are not a sponsor or investor in this site).
How do traditional banks make money?
I used to work for large banks (like Citibank and Barclays). Retail banks branches are expensive to run, but banks banks make a lot of money with their brick-and-mortar locations. So, how do banks make money?
1. You give them interest-free loans. If you keep a lot of money in your checking and/or savings account (usually $2,000 is enough), the bank makes money by paying you virtually nothing, and then lending that money in the form of loans that make a lot more money. When I worked at a bank, I loved “sticky, low-cost deposits” to fund our business. Every $1,000 you keep at the bank is about $20 of profit to a retail bank. $20,000 savings accounts were the best. We would make at least $400 a year.
2. You pay them lots of fees. If you don’t have a lot of money, then banks will make their money on fees. Banks make the most money on overdraft fees. Almost 70% of their revenue comes from overdrafts – which is the most expensive way to borrow money short-term that I have ever seen. In addition, banks make a good chunk of money with monthly maintenance fees (those pesky charges if your balance falls below a minimum) or ATM fees (you use someone else’s ATMs).
And, although fees vary by bank – the differences are not dramatic. The monthly fee at Citibank is $10 per month. At Bank of America it is $12 per month. You can save a little money at Citi, but the difference is marginal. That is why building branches made sense for banks. The product offering did not differ much – so people would choose banks based upon the proximity of the branch.
Credit unions are usually a little bit better than banks at both fees and interest rates. Why? Because they don’t have shareholders. Their customers also own the credit union, so the goal is to pay higher deposit interest rates and charge lower fees. They do a decent job of lowering fees — credit unions have many more free accounts and much lower monthly and overdraft fees. But while they can be dramatically better on some fees, they still tend to have hefty overdraft fees ($25 average instead of $35) and low interest rates on savings account (PenFed pays 0.05% compared to 0.01% at Bank of America).
Enter internet-only banks….
How do internet banks create a revolution in banking?
Amazon is able to charge less than Barnes and Noble. Why? Because they don’t have to pay for all of those bookstores and people. Internet banking is no different. By removing branches, you are removing the single biggest cost of banking.
So what can internet banks do with all the money they save? They can slash the cost of routine, everyday banking for you and save you the cost of gas.
How does that add up for you?
Dramatically higher interest rates on your savings
The Bank of America Savings Account pays only 0.01% interest rate. Compare that to the best online savings accounts. Right now Ally is paying 0.87% on savings, with no minimum. So, you could earn $50 at Bank of America, or $435 at Ally on that $50,000 deposit!
Dramatically lower fees on your checking account
Ally, Charles Schwab and Bank of the Internet Rewards Checking (just to name a few) have no monthly fee, no minimum deposit and no requirement to keep the account free. A real free account.
Actual overdraft protection
Online banks are revolutionizing overdraft charges. Ally, Schwab and Bank of the Internet let you link your savings/money market account to your checking account. If you make a mistake, they will transfer funds from your savings to your checking account – FOR NO CHARGE!
If you actually need to borrow money, Capital One 360 has created a line of credit that is linked to your internet checking account. There is no overdraft fee, and interest is charged only for the days that you use the line of credit. This is an incredible deal.
Reimburse you for ATM fees
Not only do internet banks not charge you for using other bank ATMs, but they also reimburse you for any charge that you may receive from the other bank. Ally and Schwab have no limit on the reimbursement. You can use any bank’s ATM for free! With my Ally checking account, I happily go to the closest ATM when I need cash – and I don’t worry about fees.
Deposit checks with your mobile phone
MagnifyMoney did a survey of Americans, and the #1 reason people go to a bank branch is to deposit a check. Now you can deposit a check by taking a picture with your mobile phone. Ally Bank allows you to deposit checks with a value up to $10,000. Thanks to the power of your mobile phone camera, you really don’t need a bank branch.
In an ironic twist: banks have made this revolution themselves. They have gone out of their way to push us into digital channels. They want us to give up paper statements, deposit checks with our mobile and use the ATM. Why? Because they want marginal cost improvements. Fewer people in the branches. More part-time employees in the branch. But banks keep the savings of our digital banking. They want us to make the digital switch so that they can make more money. But now we can make more money by switching to internet banks.
But are they safe?
Yes, they are safe. All of these banks are FDIC Insured. That means you have the same protections and rights as any other bank (up to $250,000).
In addition, a lot of these banks are actually being created by well-known financial organizations. Ally has been created out of the shell of the old GMAC. Charles Schwab is already well-known brand in its own right. And some of the new entrants have been rapidly acquired by banks that know the world is changing. Simple, an internet-only bank, was just acquired by BBVA – one of the largest banks in the world targeting Latin America.
Is the future finally here?
People are remarkably loyal to their bricks and mortar bank branches and banks know that. So, they pay 0.01% on deposits, charge $12 per month and $35 if you go overdraft.
But, for the first time, real competition is coming. At MagnifyMoney we are thrilled to see the competition, and the money that it could save you. You can just see that these businesses have been designed to delight and satisfy customers. When my Ally Bank CD expired, they sent me a letter and gave me a loyalty bonus. My rate would be 0.15% higher than the highest advertised rate – to thank me for being a customer! Most traditional banks do it the other way. They give big teaser introductory offers to get you to switch, and then it only gets worse over time.
But now with Ally, Schwab, Bank of the Internet, Simple and others – we will have a big incentive to switch – because the savings will go into our pocket and not the banks’.