Ash (thegreencall) wrote in paganfinance,

If a bank were to fail...

A friend of mine asked me a question about recent news regarding banks that are having trouble.  So I wrote some this up about impact a bank failure would have on consumers.  


What happens to a loan I owe the bank?


From the bank's perspective a loan is an asset as it provides income (via interest) to them.  If your bank were to fail, the federal government will take it over (by the Federal Deposit Insurance Corporation aka FDIC).  (Typically the FDIC ties to step in before a bank fail completely and tries to turn it around.)


If it can't fix the bank, then the FDIC sells off the bank's assets (namely all the personal loans, car loans and home mortgages) to other lenders.  So if the ABC bank were to fail, you'll get a notice in the mail that you now need to be sending your payments to XYZ bank from now on.  Your interest rate, previous payments and etc will be the same and shouldn't be affected.  I would suggest that you keep a few recent statements as documentation on the off chance that there is an error in processing.  But you don’t have worry about refinancing the loan AND you still have to pay it back.  If the bank goes bad, you'll just send payments some where else.


What about the savings that I have in the bank?


The amount of money that you have in savings account is a liability to the bank – it is money the bank has to cough up if you ask for it AND the bank also has to pay us interest on it.  


The most important thing that the FDIC does is insure accounts.  So any money that you have (up to $100,000) at your bank is insured and you will get it back (although it may not be prompt).  According to an old prof, one common misunderstanding is that by putting 100k in checking and then 100k in savings that this money is safe.  This is not correct as the FDIC can add certain accounts together (and not others).  I could go into more detail on that, except that no one I know I has 100s of thousands of dollars in the bank, so it is largely an academic question!

According to the FDIC, the goal is to get money to you in 2 business days, but it could take longer.  (That page also talkes about what happens to direct deposite payments).


So how does a bank make money anyway?


A bank makes money based on the difference between the amount of interest it receives from loans and the amount of interest it has to pay people who have deposited money in the bank.  So a bank is in trouble when a lot of loans go bad.  It loses assets and can't pay on its liabilities - namely our savings.   And this is the heart of all the trouble that banks are having.  All these mortgages are defaulting.  With the fall in home prices, the banks can't even sell the house to make the money back.  The banks that are troubled have been hit the hardest.

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