KINDS OF CHECKING ACCOUNTS

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KINDS OF CHECKING ACCOUNTS

Published by sam - 22/08/07 - 01:08:53 am

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During the last 10 chaotic years of consumer banking, depositors may have been overwhelmed by the many options available. But it is important to understand that all checking accounts boil down to two basic types: non interest-bearing accounts and interest-bearing accounts.

Non-interest-Bearing Accounts

Also known as regular checking, noninterest-bearing accounts pay customers no interest on the amounts kept on deposit. You simply pay the banker to provide the checking services you need.
Because of various pricing methods, regular checking accounts are typically—but by no means always—cheapest for those who tend to keep modest balances ($100 to $500 daily) or who write a relatively small number of checks per month. According to various studies, however, statistically the average person writes 21 checks per month.

Interest-Bearing Accounts

As the name implies, interest-bearing accounts pay the depositor interest on balances kept in the account according to a number of balance-calculation methods. “NOW accounts” and “Super NOW accounts” are the generic names of interest-bearing accounts, but each bank often uses its own “brand” name – such as “Market-Rate Account,” High – Interest Checking,” or simply “ Checking with Interest.”

Checking with interest came about in the early 1970’s because of the way banking works. When you deposit $1,000 into your account, the bank does not place that money in the vault. Rather, it leads up to 85 percent of it to consumers, businesses, governments, and other banks to earn interest, which covers the cost of operating the bank and contributes to its own year-end profits.

Banks can lend out your money because they know that chances are you will not withdraw all, or even most, of that $1,000 deposit immediately. While some $1,000 depositors might very well write a $900 check the next day, most others do not; they leave the money there for days, weeks, or months. Meanwhile, other customers are writing checks and making withdrawals, and still others are making deposits.

In the cumulative ebb and flow of this money are certain relatively dependable patterns. Chief among them is : Most of the time, over the banks entire customer base, less than 15 percent of total deposits is withdrawn each day. Then Federal Reserve requires banks to keep in reserve a varying percentage, usually close to that 15 percent figure, of checking deposits. This reserve requirements, which may be increased or decreased by the Federal Reserve in accordance with its policy decisions on how much it wants in the economy, assures that the banks always have enough money to meet their depositors’ daily cash-flow needs. The other 85 percent, as mentioned can be loaned out by the bank.

If the bank is not paying you interest on $1,000 deposit, and if it is lending out 850 of your dollars at anywhere from 10 to 20 percent annually, the potential profit (even after expenses) can be huge. Consumers eventually called for their fair share of the profits that their money was generating.

Interest-bearing checking accounts were developed to give the depositors a portion of that fair share. In the 1970’s, after the success of experiments with linked savings and checking accounts in New England, the Federal Reserve allowed the banks nationwide to offer NOW accounts. They could pay a maximum of 5.25 percent interest to depositors. Later, in response to high interest rates and competition from money market mutual funds, banks were also allowed to offer Super NOW accounts (also known as money market checking accounts), which paid interest rates related to prevailing market interest rates. (Around the same time, money market savings accounts, or MMA’s, we also introduced. Because one can write no more than three checks per month against money market savings account without incurring steep charges, MMAs cannot be considered true checking accounts. We will cover MMAs in chapter 2, Savings Accounts.)

On the surface, an account that earns interest on deposits would appear to be more advantageous than one that earns no interest. Unfortunately, that is not always the case. Interest-bearing checking accounts also have monthly fees or other charges. If the total fees are higher than the total interest earned—as is often the case when a low balance is maintained—an account that was opened by the depositors with the expectation that It would earn money actually incurs a net loss.

As the above case demonstrates, what appears advantageous when examined superficially can prove costly to the consumer who is not aware of the complexities of banking. A preferable option is always available, but first you must know which factors to weigh carefully, which ones are less important, and which ones distract attention from the real issues.

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August 22, 2007 | Checking Accounts, Banking |

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