According to a 2019 report by the Federal Reserve, 22% of American adults (63 million) are either unbanked or underbanked. The 6% of Americans who are unbanked have no bank account whatsoever and must rely on alternative financial products and services—such as payday loans, check cashing services, money orders and pawn shop loans—to take care of their finances. The 16% of Americans who are underbanked have some sort of bank account, but they also rely on alternative financial services.

The events of recent months relating to COVID-19 and the economic instability that has accompanied it have brought increased attention to the digital divide. In an economy that runs on the assumption that individuals have full access to traditional banking, living without that access has a number of costs. It’s important to understand these costs and how living without full access to the banking system can prevent the unbanked and underbanked from building wealth.

What Does It Mean To Be Unbanked?

The term “unbanked” describes households without a checking or savings account. The Consumer Financial Protection Bureau (CFPB) only considers Federal Deposit Insurance Corporation (FDIC) or National Credit Union Administration (NCUA) insured accounts when evaluating banked status. This means peer-to-peer payment apps like PayPal and Venmo are not included.

While there are many reasons people avoid banks, 29.2% of unbanked households cited fees or minimum balance requirements as their primary concern. Historically, bank have charged excessive fees that disproportionately impact low-income customers. Fortunately, there are now several fee-free bank accounts without minimum balance requirements that are worth considering.

What Does It Mean To Be Underbanked?

An underbanked household is one that has a bank account but lacks adequate access to other traditional financial services, such as credit and loans. Underbanked individuals may seek risky alternative financing services outside of their bank due to convenience or fear they may not be approved. Education is a key factor in underbanked households. People with high school diplomas or college experience are more likely to utilize alternative financial services.

Heads of underbanked households tend to access their accounts through a mobile app, and most pay their bills and receive direct deposits through their bank account. These households are less likely to have a credit card and more likely to have both bank and non-bank personal loans. Underbanked households may also use expensive and risky credit products like rent-to-own, payday and auto title loans.

Why Is Being Unbanked a Problem?

Being unbanked can be inconvenient and costly. Unbanked Americans are forced to pay high fees for everyday financial services like check cashing and money orders. It can cost anywhere from a few dollars to well over $10 to cash a check and up to $2 or more per money order. For a dual-income household receiving biweekly paychecks and paying at least two monthly bills with a money order, this could add up to over $150 in fees each year . Additional fees arise from money transfers and prepaid cards.

Utilizing credit is especially challenging for unbanked people. Non-bank credit including buy here, pay here (BHPH) and payday loans charge outrageously high interest fees. Interest rates on BHPH loans can run as high as 20%, and the CFPB warns that payday loans can charge the equivalent of 400% in interest. Compared to bank auto loan rates below 6% and credit card APRs ranging from 15% to 29%, BHPH and payday loans charge predatory rates.

Bank accounts also provide more immediate access to your money by supporting direct deposited wages and government checks. Deposits are also insured and protected against bank closure, and they pay interest on savings. Additionally, first-time home buyer programs and most mortgages require several months of bank statements, making it harder for unbanked people to qualify for home loans.

How Are Financial Institutions Trying To Meet Unbanked Customers?

The best online banks offer low- or no-fee accounts, including checking accounts with no minimum balance requirement. Many banks and credit unions also offer second chance checking accounts for people who may not qualify for traditional bank accounts.

Additionally, for the last several years, the Cities for Financial Empowerment Fund has developed stringent standards for second chance and low-fee bank accounts. Accounts that meet these standards can be certified as a BankOn account. There are currently over 290 different accounts available at over 46,490 branches nationwide.

Director of the CFPB, Rohit Chopra, is also leading the open banking discussion to ensure consumer privacy in banks. This effort may help unbanked and underbanked individuals feel more comfortable with banking privacy.

What Alternative Financial Products Offer

The biggest reason for remaining unbanked may stem, at least in part, from concerns about the fees associated with bank accounts. However, the costs of remaining unbanked generally outweigh the cost of bank fees. But the fees associated with alternative financial products often are on display—even if they are not completely clear.

For instance, when you walk into a check cashing store, the menu of services and their (initial) costs are often listed on a board on the wall. Similarly, getting a money order at a grocery store or other retail establishment has a clear cost that is posted.

But bank fees are much more opaque. While the information on monthly maintenance fees, overdraft fees, minimum balances and ATM fees are available online (which assumes the potential customer has good internet access), every bank website places this information in a different spot, making it more difficult to determine what to expect from any specific institution or account. Alternatively, potential customers can ask at a bank branch for a brochure outlining the specifics of an account, but they will likely have to read through some fine print to determine the fee structure.

For individuals who worry they do not have enough money to make a bank worthwhile, and for those who are distrustful of banks, the differences between the clearly posted (but incomplete) fees at alternative financial services providers and the difficult-to-find fees at banks make the choice an easy one. Go for the alternative financial service, so you know what you are getting into.

Alternative Financial Services Have Hidden Costs

While the costs of alternative financial services may seem preferable because they are disclosed up front, they add up to a much steeper expense over time. According to the Financial Health Network, unbanked and underbanked Americans spent $189 billion in fees and interest on financial products in 2018, the latest year for which there is complete data. Using the FDIC’s estimate that some 63 million Americans are unbanked or underbanked, that would be an average of $3,000 in annual costs per person.

As high as these costs are, they are only the direct costs that unbanked and underbanked households face. There are a number of indirect costs that can have even greater consequences.

Lack of Access to Credit

Unbanked individuals often use prepaid cards to handle the sorts of transactions a banking customer would use a credit card for. Although prepaid cards fill an important gap for unbanked individuals, they often come with additional fees. Users may have to pay an activation fee, a monthly fee and fees for making deposits or using the card at an ATM.

The biggest issue with using prepaid cards, however, is that, unlike credit cards, they do nothing to help their users build and maintain a credit history. Without a credit history, unbanked and underbanked individuals will not be able to access loans. And since credit history may also be accessed by employers, landlords, utility companies and insurers in making decisions on whom to hire, rent to, provide service to without a deposit and insure, not having a credit history can really hurt you.

Banks offer credit-building tools that are not available via alternative financial services. Many banks offer secured credit cards to their customers with no credit history or poor credit. With these cards, the customer makes a deposit in an account to open the card. As long as the customer continues to pay the secured card’s bill, the deposit remains in the account while simultaneously building their credit history. Secured credit cards often have monthly fees, but they tend to be lower than the fees levied by prepaid cards, and these fees can be a worthwhile expense to help establish credit.

Difficulty Building an Emergency Fund

Having money set aside for future spending is one of the cornerstones of financial health. According to Microcredit Summit, an organization working to lift American families out of poverty, the median amount of money borrowed through a payday loan is $375 as of 2020. Avoiding the high fees and interest rates of a payday loan would be one of the big benefits of having an emergency fund. However, building such savings, even to a level of $375, can be difficult for the unbanked and underbanked.

That’s partially because the options for saving money as an unbanked or underbanked household are costly. Keeping money in cash at home leaves you vulnerable to theft—and the money will lose value over time due to inflation. Loading up a prepaid card with extra cash can protect you from theft, but you will have to pay the card’s fees. In addition, both of these options for savings leave you open to temptation, since the money is already in conveniently spendable form.

Traditional savings accounts, CDs and money market accounts are more efficient savings vehicles. Not only are they often fee-free (although not always), but also they will earn interest on the deposit, so the money can grow rather than shrink over time. In addition, having the money set aside in a bank makes it harder to access your emergency fund and other savings unnecessarily.

Time Costs

One of the biggest benefits of modern banking is the access to financial technology. Whether you put your money in a traditional brick-and-mortar bank or an online-only bank, you will have access to a number of tech tools that make financial management easier, such as online bill pay, automatic transfers, direct deposit and mobile check deposit, among others.

Those who are unbanked and underbanked do not have free access to these tools. While prepaid cards can sometimes provide access to some of these options, there is generally an additional fee for each one. In order to access and use money at the lowest cost, the unbanked will need to take care of their transactions in person. This means taking time out of their day to visit an alternative financial service, which puts an added cost on their money.

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Dealing With These Costs

Despite the costs, it is unlikely that all unbanked and underbanked individuals will become fully banked. The banking industry has an uphill battle to fight the perceptions that banks are untrustworthy or only for people with a certain amount of money. And that is assuming that banks want to court the customers who currently avoid them. Considering the number of bank deserts in areas where payday loans and check stores are abundant, it’s not necessarily clear that banks do want that.

One proposed solution is to have the United States Postal Service partner with banks to provide nonbank financial services to the underserved. This suggestion rests on the fact that there are already post offices in every neighborhood, and that the Postal Service is a well-trusted institution. Since the Postal Service already offers money orders and international money transfers, it’s well positioned for an expansion in financial services.

That said, not everyone believes this is a viable solution, and we are nowhere near making such a change to the U.S. Postal Service a reality.

Without such a change at the federal level, the unbanked and underbanked will continue to be served by a patchwork of alternative financial services and a few banks geared toward the newly banked—all while continuing to pay the price of living without full bank access.

Frequently Asked Questions (FAQs)

Why are people unbanked?

According to the FDIC Survey of Unbanked and Underbanked Households, people are unbanked because they can’t meet minimum balance requirements, lack of trust in banks, have privacy concerns or don’t want to pay high banking fees. Other reasons include inconvenient access to branch locations, previous bank or credit issues and lack of appropriate identification documents.

How large is the unbanked population in the U.S. currently?

The 2021 FDIC Unbanked and Underbanked Households survey reports that 4.5% of U.S. households—or approximately 5.9 million households—are unbanked. The rate of unbanked households increases significantly among low-income households and households of color. While only 2.1% of white households are unbanked, 9.3% of Hispanic households and 11.3% of Black households lack bank accounts.

How large is the underbanked population in the U.S. currently?

There are currently 8.7 million underbanked U.S. households, which make up 14.1% of the overall population. This number includes households that accessed a bank account at least once in a 12-month period and utilized money orders, check-cashing or non-bank credit services, including payday, title or rent-to-own loans. This number may be skewed because it also includes international remittances or money transfers. Non-bank remittances are currently the most cost-effective way to send money internationally.

Which state has the highest unbanked and underbanked rate?

As of 2021, Mississippi has the highest percentage of unbanked households, accounting for 11.1% of the state’s population. This rate is 6.6% higher than the average rate in the South and 6.2% higher than the national rate. In general, the South had the highest unbanked rate at 4.9%, which is 0.7% higher than the combined rate of the other three regions.