How the Underbanked Handle Finances in the U.S.

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If you’re among the underbanked, you probably rely on retail outlets for financial services instead of using banks and credit unions. Underbanked households lack access to safe and affordable financial services. They may have a checking or savings account, but they rely on alternative financial services (AFS) to some degree. For example, an underbanked consumer might use AFS to make payments or borrow money.

Identifying Underbanking

The Federal Deposit Insurance Corporation (FDIC) identifies a lack of banking access in two ways:

  • Unbanked households do not have a checking or savings account with a bank or credit union.
  • Underbanked households have bank accounts, but they also use AFS because their banking relationships do not fully meet their needs.

Non-bank services are not necessarily bad, but they may be less consumer-friendly, as we’ll explore below. Per the FDIC, the following services are AFS that the underbanked use:

  • Money orders: Individuals purchase check-like documents to make payments.
  • Check cashing services: Workers cash paychecks at a retail establishment instead of using a bank and depositing the funds.
  • International remittances: Workers and buyers use non-bank money transfer services to move money overseas.
  • Refund anticipation loans: Taxpayers who expect a refund get access to that money immediately. Although regulations have curtailed the worst abuses, these loans can still cause problems.
  • Rent-to-own services: Buyers arrange financing for furniture and appliances directly with a retailer under terms that might cost more than a standard installment loan.
  • Pawnshop loans: Individuals bring valuables to a local pawn shop for temporary cash. If they cannot repay the loan, the pawnshop may sell the items.
  • Auto title loans: Vehicle owners use their cars as collateral to borrow, but this method of financing can get expensive.

Challenges They Face

The underbanked have a hard time getting ahead financially because the services lack the benefits of mainstream financial services providers. In some cases, AFS is more expensive.

Transaction fees: Banks aren’t always cheap. But it’s possible to get a free checking account with free online bill payment and remote check deposit, especially at local credit unions. Online savings accounts also tend to be fee-free. But other service providers typically charge a fee for every transaction.

For example, buying money orders may cost a dollar or more every time you need one, but writing a check or setting up a payment through your bank account may be free. The same is true for cashing a check at a check-cashing store, which can cost several dollars or a small percentage of the check amount—and you can’t deposit the funds for safekeeping.

Consumer protection: Bank and credit union accounts benefit from several consumer protection laws. For example, funds in federally insured accounts are protected against bank failures, but other services might put your money at risk. What’s more, regulators also limit lending and collection on debts, while AFS may get away with less consumer-friendly rates, fees, and behaviors.

Time and energy: In addition to paying more for services, the underbanked work harder to conduct business. They may need to physically visit a retail store to cash a check, buy a money order, or send funds overseas. That means traveling to the location during business hours, standing in line, and paying a fee for almost every payment they make or receive. Online banking and direct deposit are significantly easier.

Reduced access to mainstream products: It’s hard for the underbanked to start using mainstream financial products. With AFS, they might not be building credit, and it’s harder to get approved for a mortgage when you don’t have any bank statements to provide lenders.

Limited foundation-building: By living without bank accounts, the underbanked have significant challenges in working for a secure future. They may lack tools to build emergency funds, pay down debt, and save for long-term goals like retirement, education, or a down payment.

Who Are the Underbanked?

The Federal Deposit Insurance Corp. (FDIC) 2019 Survey of Household Use of Banking and Financial Services found that 5.4% of households were unbanked in 2019. This figure was the lowest recorded since the survey started in 2009. Additionally, the same survey found that the use of Alternative Financial Services (AFS) is declining, with 17.2% of households using money orders, check cashing, or bill payment services in 2019.

The report points out, however, that the economic impact of COVID-19 is likely to increase the number of households who go unbanked in next year's survey. The leading reason households are unbanked is that they don't have enough money to cover the bank's account minimums.

Unbanked and underbanked groups follow familiar patterns of economic inequality. Unbanked rates were highest “among lower-income households, less-educated households, Black households, Hispanic households, American Indian or Alaska Native households, working-age disabled households, and households with volatile income,” according to the FDIC.

Reasons for Avoiding Banks

When asked why they don’t have adequate banking services, the underbanked give these responses most often:

Not enough money: With limited funds, it can be expensive to use a bank account. Some may believe it’s not worth it, even if they can meet account minimums.

Don’t trust banks: Individuals may dislike working with banks due to bad publicity or bad experiences in the past. Surprise fees are not good for repeat business.

Fees too high: Customers must contend with monthly service charges, overdraft fees, and miscellaneous charges for one-off transactions.

Other reasons: The underbanked cite a variety of other causes. Some can’t open accounts because they lack documentation and identification to do so. Others avoid banks and credit unions because of the perception that those institutions aren’t interested in serving households that aren’t rich.

Solutions for Financial Inclusion

Banks and credit unions can profitably serve unbanked and underbanked households. Especially with technology, an accommodative regulatory environment, and some creativity, financial institutions can improve the well-being of struggling consumers.

Technology: Technology brings down the costs of doing business and makes it easier to serve a large number of customers who generate small profits. Financial inclusion efforts have already shown success in this area, and startups continue to innovate as open banking evolves.

Alternative credit scoring: The traditional FICO credit score evaluates your borrowing history, but some consumers have never borrowed. Still, they have been paying rent and utility bills faithfully, and that can signal to lenders that these consumers are likely to repay loans. While alternative credit approvals gain momentum, homebuyers can already use strategies like manual underwriting to get a mortgage.

ITIN lending: The need for a Social Security Number is a hurdle for non-citizen borrowers. Loans based on an individual taxpayer identification number (ITIN) can fill the gap, although individuals and institutions are hesitant to use these products.

Expanded loan offerings: Banks and credit unions can offer new products to appeal to underbanked communities, and they have already experimented with new approaches. For example, low-risk, small-dollar loans might not require the same underwriting efforts as bigger loans. Banks can also move into payday loan alternatives, providing customers with lower-cost installment loans.

Financial education: Most people never learn about personal finance in school. In the adult world, they’re left to learn from their mistakes or model the behavior of a successful, well-informed network. By educating consumers on the basics of compound interest, credit scores, and budgeting, financial institutions can help underbanked households move toward solid financial ground. For example, many Black-owned banks and credit unions prioritize this type of financial education.

Ultimately, households of all types need access to affordable financial services. Transparency also helps: If customers get stung by “gotcha” fees, they will steer clear of mainstream banks and credit unions. Other service providers might end up costing more, but at least they clearly explain fees (in some cases). 

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  1. FDIC. “2017 FDIC National Survey of Unbanked and Underbanked Households,” Pages 1, 8. Accessed May 18, 2021.

  2. FDIC. “When a Bank Fails - Facts for Depositors, Creditors, and Borrowers.”

  3. FDIC. “Consumer Protection Topics - Debt Collection.”

  4. FDIC. “Part–32—Lending Limits.”

  5. FDIC. “How America Banks: Household Use of Banking and Financial Services,” Pages 1, 6, 35.

  6. FDIC. “How America Banks: Household Use of Banking and Financial Services,” Page 54.

  7. FDIC. “How America Banks: Household Use of Banking and Financial Services,” Page 3.

  8. FDIC. “How America Banks: Household Use of Banking and Financial Services,” Page 12.

  9. FDIC. “How America Banks: Household Use of Banking and Financial Services,” Pages 17-18.

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