How Do Banks Make Money? A Simple Guide

A commercial bank is a for-profit financial institution. It accepts deposits from individuals and businesses, offers a range of banking services (including checking and savings accounts), and lends money to its customers.

The money you deposit in a commercial bank belongs to you, and you can withdraw it at any time. Banks keep a certain amount of cash, known as a reserve, on hand for withdrawals (though there’s currently no federal requirement that they keep a certain percentage in reserves).¹

Your money is safe in the bank thanks to the Federal Deposit Insurance Corporation (FDIC), which protects your money in the event of a bank failure. FDIC insurance covers at least $250,000 per depositor, per ownership category, at each insured bank.²

Of course, these institutions don’t provide these services for free. So, how do commercial banks make money? Let’s take a closer look under the hood.

So, how do banks make money? Let’s take a closer look at the most common ways banks turn a profit.

1. Interest income from loans and credit cards

When you open a savings or checking account at a bank, your money doesn’t just sit there. Your bank uses that deposit money to make loans to other people or businesses. Many banks offer mortgages, auto loans, personal loans, and bank lines of credit. In exchange for the use of your funds, the bank pays you interest on your deposit accounts. They also charge customers interest rates on loans and credit cards. The net interest margin (NIM) is the difference between the interest paid on deposit accounts and the interest earned from loan and credit products.³ Banks use the NIM to determine profitability. Interest income is usually a bank’s primary source of income.

2. Income from repossessed collateral

Secured loans, like mortgages or car loans, typically use collateral to lessen the risk for lenders. If you default on a secured loan, the bank can seize the collateral and either sell it or auction it off to recover its money. For example, if you default on a mortgage or home equity loan, the bank can foreclose on your house and sell it. Similarly, if you default on a car loan, the lender can repossess and sell your vehicle. The money from the sale is then funneled back to the bank.

3. Banking fees

Another chunk of a bank’s income comes from various bank fees. Some of the most common fees are:

• Monthly maintenance fees. Banks often charge account maintenance fees to customers with deposit accounts. Depending on your bank, these fees can be waived if you meet certain requirements, such as maintaining a minimum balance in your account.
• Overdraft fees: You may be charged an overdraft fee of approximately $35 if you spend more money than is available in your account.⁴ To avoid this fee, look for a bank that offers overdraft protection by linking your checking and savings accounts to cover any transactions that would overdraft your account.
• Non-sufficient fund (NSF) fees: If your bank doesn’t allow overdrafting and your transaction declines, you may have to pay an NSF fee. In 2023, customers paid more than $5.8 billion in overdraft and non-sufficient funds (NSF) fees.⁵
• ATM fees: If you withdraw money from an out-of-network ATM, you may incur a fee. The average ATM fee is $4.86, which can add up quickly if you make multiple withdrawals per week.⁶
• Foreign transaction fees: If you use your debit card or withdraw cash abroad, your bank may charge you a foreign transaction fee. The average fee ranges from 1% to 3% of the transaction amount.⁷
• Excess transaction fees: Banks tend to limit the number of transactions and withdrawals you can make each month. If you exceed this limit, your bank might charge you a fee.
• Credit card fees: Credit cards may have annual fees, late fees, or higher interest rates if you carry a balance from one month to the next. The best way to avoid these fees is to pay your balance in full by the due date every month.
• Brick-and-mortar bank fees: If your bank has physical locations, it may charge teller fees, fees to obtain bank statements, vault and safety deposit box fees, and other application and loan fees.

This may seem like a lot of fees, but it’s worth remembering that not all banks are fee-driven.

Other ways banks make money

Interchange fees

When you use your credit or debit card to make a transaction, that amount will be withdrawn from your bank account. But that’s on your end. The merchants must pay an interchange fee, also known as a card processing fee, to the card issuer (your bank) and to their own bank for electronic payments. This is yet another way for financial institutions to make money. Interchange fees are also a way your bank or card issuer can afford to pay out credit card rewards, such as cash back.

Investments

In addition to earning interest on deposits through loan products, banks invest their customers’ money in various assets to generate a profit. Investments may include:⁸

• Treasury and government agency securities
• Commercial and industrial loans
• Loans to commercial banks

If you’re curious about your bank’s investments, you can review its balance sheet.

Advisory or consulting services and commissions

Banks can also generate revenue by providing advisory or consulting services to outside businesses. These services may include assisting them with financial goals and strategies, advising on investments, or providing wealth management services. Not all banks offer advisory or consulting services. Banks may have partnerships or relationships with other financial institutions, like brokerages and investment services, that pay them a commission for referring their customers.

Banks make money in many ways. Ultimately, the relationship between a customer and a bank is a two-way street. While banks operate to generate a profit, they do so by providing essential financial services, like interest-earning accounts and loans that help people achieve major life goals.

Looking to finance a big goal, like a dream vacation or a home improvement? Learn how to borrow money the smart way.