Can You Trust the Bank with Your Money?

by | Mar 21, 2023 | Business Finance, Resources, Small Business | 0 comments

Recent bank failures of Silicon Valley Bank and First Republic Bank have created worry that traditional banks can’t be trusted to hold deposits.

For many, a bank always represented the safest place to hold money. Who doesn’t believe their money to be safe in those walk-in safes.

Most people feel safe in a walk-in closet, let alone a room surrounded by cash.

So when banks began to collapse seemingly overnight, anxiety about a traditional bank’s ability to protect cash deposits began to rapidly build.

Small business owners like everyone else, enjoy the safety and convenience of a traditional bank.

Unless of course, the owner can’t access their cash for payroll because the bank won’t allow withdrawals.

Traditional Banks—Assessing Potential Risk

How does a bank run out of cash—it’s a bank. The ocean never runs out of water.

More importantly, most account owners will be wondering if their bank may be susceptible to the same unexpected liquidity problems. 

How can one determine their level of exposure to bank failures?

Risk assessment begins with the account holder’s total amount deposited in the bank.

Deposits of $250K and less carry the least amount of risk. The Federal Deposit Insurance Corporation (FDIC) covers all deposits of $250K and less.

The FDIC is an independent agency created by Congress to maintain stability and public confidence in the nation’s financial system. If an FDIC insured bank fails, account holders will be reimbursed deposits totaling up to $250K.

Deposits of $250K or More

Depositors with more than $250k in accounts will find their cash at a higher level of risk.

Any amounts over the $250K threshold won’t be paid back by the FDIC. The FDIC will pay the account holder the first $250k.

How can large depositors protect important cash assets?

Three options exist:

  • Split Deposits Among Multiple Banks
  • Put Deposits in an Systematically Important Bank (SIB)
  • Buy Treasury Bonds Directly

Split Deposits Among Different Banks

One of the easiest and risk-free methods to avoid the FDIC $250K limit, is to simply divide large deposits up between multiple banks.

By depositing amounts of $250K or less in multiple banks, the entirety of an owner’s funds can be FDIC insured—even though the total amount of deposits exceeds $250K.

Most large depositors choose this method for at least portions of their cash assets.

Deposit money in an SIB

Deposit money in a what?

SIB stands for Systematically Important Bank. The designation resulted from the Dodd-Frank Act passed to prevent banking industry collapses, like the one seen at the end of 2007.

An SIB designated bank means it holds more than $250 million in deposits. 

These banks hold so much value in deposits, that preventing their failure in the future would be needed to avoid an industry collapse, like the one leading to The Great Recession.

Dodd-Frank forced SIBs to hedge large amounts of cash against deposits and investments. SIBs must undergo “stress” testing.

During these economic catastrophe simulations, regulators determine a bank’s ability to withstand mass withdrawals and maintain liquidity.

These banks have been over-capitalized, to the point that if the SIBs collapse, it means the entire banking system has probably folded.

And even if deposits exceed $250K, the chances would be slim that the FDIC wouldn’t agree to reimburse all deposits, including those over $250K. They agreed to this very agreement with SVB depositors with more than $250K.

While virtually impossible, the risk does exist that the FDIC wouldn’t honor all deposits from an SIB. Keep that fact in mind when making decisions concerning SIB deposits.

Bypass the Bank—Buy Treasury Bonds

Understand what the bank does with customer deposits, and how it led to the issues at SVB and First Republic Bank.

Banks take consumer deposits and invest some of the money into Treasury bonds.

Currently these bonds pay out at rates between 2 to 6.89%. The bank pockets most of these profits, paying interest generally around 1%  or less for the best accounts.

Why give away all that risk-free money to the bank?

Go to TreasuryDirect and buy the same bonds directly from the government—just like the bank.

In this situation, depositors cash will be fully guaranteed by the U.S. government. The depositor assumes essentially no risk, while gaining a 400 percent increase in interest income.

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