What Are Nonbank Banks?

Nonbank Banks Explained in Less Than 5 Minutes

Definition
A nonbank bank refers to a company that offers limited financial services similar to a traditional bank but typically does not take deposits like a traditional bank would.
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A nonbank bank refers to a company that offers limited financial services similar to a traditional bank but typically does not take deposits like a traditional bank would.

Understanding what nonbank banks are and how they work may help you decide if they may be a better option to help you meet your financial needs.

Definition and Example of A Nonbank Bank

Nonbank banks can best be described as limited-service financial institutions that provide similar services as traditional banks but with a twist. Nonbank banks can offer financial products and services to consumers, such as giving loans or accepting deposits, but they cannot offer both.

Note

The Bank Holding Act of 1956 (BHCA) defines a traditional bank as an institution that accepts deposits which the depositor has a legal right to withdraw on demand (a demand account), and engages in the business of making commercial loans.

Unlike thrifts (savings and loans), credit unions, and traditional banks, nonbank banks typically do not have a charter and do not take deposits.  As a result, nonbank banks are not governed by the same rules and regulations as banks. Common nonbank banks include payday lenders, insurance companies, mortgage brokers, and even retail stores that offer financial services such as check cashing.

  • Alternate names: Limited-service bank; limited-purpose bank; nonbank financial institution
  • Acronym: NBFI (Nonbank Financial Institution)

Many people encounter a nonbank bank when purchasing a car. For instance, if you acquire financing through the car dealership’s finance company, you have utilized a nonbank’s banking services.

How Do Nonbank Banks Work?

In general, when you want to open a checking or savings account, you know a traditional bank would be the first place to go. However, at some point, you may have utilized the services of a nonbank bank without even realizing it.

Traditional full-service banks can offer customers services like accepting demand deposits into checking accounts as well as making commercial loans to businesses. However, nonbank banks are considered limited-purpose financial institutions because they have chosen to forego one of those services. In other words, they can do one or the other, but not both.

Note

A demand deposit means a depositor has the legal right to withdraw money at any time without notifying the bank first. 

So as long as accepting deposits and making loans do not exist in the same location, nonbank banks fall outside the limited definition of the word “bank” located in the BHCA. That means they can offer financial services to consumers without being held to the same regulations as traditional full-scale banks. 

However, some nonbank banks that operate as a money service business (MSB) must obtain licensure with the state. In addition, nonbank banks that operate under a state or federal charter can accept deposits that are insured by the Federal Deposit Insurance Corporation (FDIC).

Note

Prepaid card sellers, foreign exchange dealers, traveler’s cheque issuers, and money order providers are examples of nonbank banks that are required to have the appropriate licenses to operate.

A nonbank bank can be a company that offers only one primary service, like a mortgage lender providing home loans. However, some nonbank banks can have a primary business that provides ancillary services. For instance, a grocery store sells groceries as its chief source of revenue. However, they may also offer additional check cashing, money orders, and money transmission services. 

So, let’s say you had a family member who lives in a foreign country and needs some money wired. Using a nonbank bank like Western Union may be a faster and more affordable option than using a traditional bank.

Types of Nonbank Banks

Generally, the following businesses could be considered nonbank banks:

  • Mortgage brokers
  • Insurance companies
  • Check cashing businesses
  • Casinos and card clubs 
  • Securities and commodities firms 
  • Money services businesses (MSB)
  • Loan or finance companies
  • Investment firms
  • Pawnbrokers
  • Precious metal dealers
  • Credit card system operators
  • Payday lenders

Notable Happenings

Nonbank banks came about due to a loophole in the BHCA, which defined a bank as any institution that accepts deposits and offers commercial loans. Since the definition is expressed with the conjunctive “and,” many companies can avoid banking regulations by only conducting one of those activities instead of both. However, since the 1980s, the U.S. has placed more restrictions on the chartering of new nonbank banks.

Do I Need a Nonbank Bank?

While banks are a safe place to keep your money, there may be times when a traditional bank doesn’t adequately meet all of your financial needs. Some banks tend to offer financial services to customers as packaged deals. For example, to waive the $15 monthly checking account fee, customers may also be required to have a personal loan, mortgage, or credit card with the bank. On the other hand, picking up a money order while at the grocery store may be a much more affordable option, depending on your financial situation.

In many cases, the standard customer who uses a nonbank bank may not have a bank account or maintain a banking relationship. However, with the growing availability of nonbank banks and the wide array of services, even banking customers who want more convenience have also found these institutions attractive.  

Key Takeaways

  • A nonbank bank is a company that offers limited financial services and typically does not accept demand deposits.
  • Demand deposits and commercial loans can not exist in the same nonbank bank.
  • Nonbank banks are not governed by the same rules and regulations as commercial banks.
  • Nonbank banks can include mortgage lenders, payday loans, auto finance companies, and grocery store check cashing facilities, among others.
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Sources
The Balance uses only high-quality sources, including peer-reviewed studies, to support the facts within our articles. Read our editorial process to learn more about how we fact-check and keep our content accurate, reliable, and trustworthy.
  1. Federal Deposit Insurance Corporation. "6000 - Bank Holding Company Act." 

  2. Rebecca Reeves. "Nonbank Banks: Who's Minding the Store?" Louisiana Law Review. Page 1087.

  3. Cornell Law School Legal Information Institute. "31 CFR § 1022.380 - Registration of Money Services Businesses."

  4. Rebecca Reeves. "Nonbank Banks: Who's Minding the Store?Louisiana Law Review.

  5. U.S. Bankcorp. "An Account With Extra Benefits for U.S. Bank Credit Card or Loan Customers."

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