Progress has been made recently in combating harmful underbanking, but millions across the US still suffer. It is essential to understand the barriers to banking that block these people from being financially included and why it is harmful to them not to be included. 

Defining Unbanked and Underbanked

Unbanked individuals are those that have no bank accounts or typically use financial services from check cashers and payday lenders rather than seeking them from banks. Recent studies indicate that 4.5% of US households remain unbanked. This totals almost 6 million households that lack a single bank account. Fortunately, this is the lowest rate the US has seen since 2009, indicating that some progress has been made in resolving harmful underbanking. 

Underbanked individuals have bank accounts but continue to use non-bank financial services such as money orders and check cashing. This composes a much higher population, with about 14% of US households, almost 19 million, underbanked. These people are less likely to have credit cards and are more likely to have personal loans. 

Why Does Harmful Underbanking Happen?

Lack of Funds and Trust

The most common reason people give for remaining unbanked is that they lack the funds to meet balance minimums at banks. The next most common reasons are that people do not trust banks and believe that not using them gives them more privacy. 

Typically banks remain inaccessible to low-income individuals due to fee and account minimums that are not possible for those living paycheck to paycheck. This high threshold for financial services exposes millions to harmful underbanking. 

Lack of Documents

Underbanked communities also struggle to acquire financial services from banks as many individuals lack transactions in their credit files to build up a credit score. Such untracked transactions and lack of a good credit score make banking even more expensive for those who have little expendable income, to begin with. This cycle makes serving underbanked communities more challenging as banks must find alternative financial service solutions for lower credit scores and history thresholds. 

Demographics

The overwhelming majority of the underbanked and unbanked are low-income and minority communities. Single-parent households are also much more likely to remain unbanked. The racial divide when it comes to harmful underbanking is very apparent. The FDIC indicates that 40% of African American adults are unbanked or underbanked. Discrimination based on ethnicity by banks has been a barrier to financial inclusion across the US for decades. 

No Perceived Need

Many underbanked or unbanked people do not feel they need bank-based financial services. Without saving or need for credit, not having access to financial institutions is not a concern. Additionally, many stores allow these individuals to cash their paychecks or send money orders. 

Lack of Useful Services

Unfortunately, banks typically lack the services that these individuals need. Most banks will only cash a check if the person has an account. Checking account minimums is often too high for these underbanked communities. Banks also charge significant fees for bounced checks which are much more common for those living from paycheck to paycheck. Additionally, banks do not conduct payments for utility companies or electronic money transfer services. All of these factors demonstrate how banks struggle to deal with harmful underbanking.

Education 

Education can be a critical factor in determining whether a household will utilize financial services from banks. This is for two key reasons. First, people with more education are typically able to make more money, making minimums and fees at banks less of a problem. Second, they generally are better informed about the realities of financial services and how they can benefit from banking services. This is evident because people without a high school or college diplomas are more likely to be underbanked. 

Many choose to work with financial service alternatives rather than banks as they can see and understand the prices involved. For example, check cashing and money order services to clarify how much they charge for services. In comparison, banks have more complicated fee structures that a low-income single mother cannot afford to spend time figuring out. Even if the bank offers an individual like this lower fees, they will go with the alternative as they can quickly and easily understand what they agree to.

Alternatives Used Instead

Unbanked households are twice as likely to use prepaid cards and online payment services than households with bank accounts. In addition, while the widespread use of non-bank credit, such as pawnshops and auto title loans, has decreased significantly over the past several years, these are still used considerably more by underbanked communities and households. 

Costs of Harmful Underbanking

Expensive Check Cashing

Check cashing services charge incredibly high rates, reaching over $10 per paycheck. This is a prime example of harmful underbanking as low-income individuals are forced to pay a substantial portion of their paycheck to access their limited funds. Excessive fees from non-bank financial services can quickly become a vicious cycle that puts an extra burden on those who have the least. 

Predatory Interest Rates

Regarding credit, the situation for unbanked and underbanked individuals is even worse. Buy here, pay here loans charge as high as 20% interest rates. And payday loans can reach as high as 400% interest. Banks offer much more reasonable terms for credit with much lower and less predatory interest rates. Excessive interest rates and predatory loans are common features of harmful underbanking. 

Large Loss of Income

In 2018 it was estimated that unbanked and underbanked individuals in the US spent almost $190 billion in fees and interest on alternative financial services. This averages out to around $3000 per year per person. This is an immense amount of money for low-income households and communities. 

Lack of Savings

Without bank accounts, people cannot build up savings for emergencies or purchase a home. Moreover, cash kept at home is not secure and subject to inflation. Not having a bank account also prevents people from accessing new digital financial services that can save them lots of time and money. 

Conclusion

Understanding the many reasons for harmful underbanking is the first step in addressing this problem. Unfortunately, millions remain unbanked or underbanked due to insufficient funds, trust, or many other reasons. Solutions directly addressing these problems have the best chance of combating harmful underbanking.

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