Alternatives to Commercial Banks

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In an earlier post, I offered guidance on choosing a bank for your savings.  Even the smallest investors, however, have alternatives.  Savings banks, though fewer than they once were, might suit some people better.  Credit unions can also take small deposits and support larger ones, too.  This post considers these two alternatives.  (A later post will take up how the U.S. government offers secure savings bonds and will also touch on the growth of exclusively on-line banking.)

Mutual Savings Banks

These resemble commercial banks.  You need to examine much the same issues as discussed in my September 2, 2018 post on commercial bank savings.  (Use the above link if you want a refresher.)  Otherwise, savings banks have fewer lines of business and they focus more on the saver.  Effectively, all they do is collect savings deposits and then lend them out — usually to mortgage borrowers.  They do not have stockholders as do commercial banks.  Rather, depositors in effect have an ownership stake in the bank proportional to the size of their deposits.  After expenses, the managements of these banks pay out in interest to their depositors all the returns from their lending.

Such arrangements appeal to many.  These depositors feel they’ll get better treatment and earn more than they would in a commercial bank, where the first obligation of management is to its stockholders and not to its depositors.  But other considerations may offset these advantages:

  • Though figures vary, most savings banks do not pay higher rates on their deposits than commercial banks.
  • Because savings banks tend to be smaller than commercial banks, they are less convenient, having fewer ATM stations, for example, and less of a presence elsewhere in the country, and certainly abroad. Many savings banks allow access to the same ATM networks as commercial banks, but that arrangement forces you to use another institution’s ATM. Find out if any savings bank you’re considering has such networking arrangements and what fees are involved.
  • All these drawbacks are particularly applicable when it comes to foreign exchange transactions.
  • Because savings banks otherwise tend to be smaller institutions, safety considerations cut both ways: Their smaller size suggests they have more limited resources to meet difficulties, but at the same time, they are less likely to encounter the problems that might face broad-based commercial banks when they venture into more exotic activities.
  • Because savings banks do not trade on public stock exchanges, it is harder than with commercial banks to get information on the strength of their finances.  Credit rating agencies have little interest in them.  However, such information is available from the Federal Deposit Insurance Corporation (FDIC) at www.fdic.gov.  Also, Veribanc (veribanc.com) includes ratings on savings banks and will provide them to you for a fee.

Credit Unions

Credit unions appeared in the early 1900s.  They were designed to help working people who couldn’t qualify for loans at commercial banks.  Members of the credit union pooled their funds to establish not-for-profit cooperatives with the aim of lending to one another.  Because credit unions lack any concern for profit and stockholder return, they typically paid a little more on deposits than commercial banks, though the returns vary from union to union.  This difference has grown less significant of late.

By law, credit unions must form themselves around what the authorities call a “common bond,” usually employees of one company or government agency or members of the same church or club or even people who just live in the same neighborhood.  Depositors, rather than establish an account, as they would at a commercial or savings bank, buy shares in the union.  The value of their account is expressed as shares, though, practically speaking, these are much like bank deposits.   In smaller credit unions, member volunteers do most of the work, while larger unions maintain paid professional staffs.

As with savers at mutual savings banks, savers at credit unions say they feel more comfortable than at commercial banks.  They anticipate higher rates than at for-profit institutions, and they like the sense that, as members, they are the main focus of the union, especially compared to a large commercial bank.

There are drawbacks, however, especially with smaller credit unions, and they are similar to those of savings banks. Credit unions cannot offer the range of services available from commercial banks and they also lack the convenience of having many locations and a broad network of ATMs, as well as relationships with other financial institutions.  Smaller unions, run by inexperienced volunteers, may feel inadequately staffed.

Safety

 Most mutual savings banks have FDIC insurance under exactly the same terms as commercial banks: each depositor is insured for up to $250,000.  Make sure the savings bank you are considering is a member of the FDIC.  Although credit unions cannot participate in FDIC arrangements, they can acquire insurance through the National Credit Union Insurance Fund (NCUIF) run by the federal government’s National Credit Union Administration (NCUA).  It offers depositors (shareholders) insurance on deposits up to $250,000.  State-chartered credit unions may use the NCUIF or have state or private insurance for their depositors.  If you are considering a credit union, find out which insurance, if any, it carries.

Aside from insurance questions, assessing the finances of these institutions is a bit more difficult than with commercial banks.  As in the case of savings banks, credit rating agencies have little interest in evaluating unions because of their mutual character – that is the absence of stockholders. You can find out about credit union finances on the NCUA website.  www.ncua.gov.