A bank is an institution that provides financial services to consumers, businesses, and governments. One major type of bank is the commercial bank, which has fewer restrictions on its services than other types of banks. Commercial banks profit by taking deposits from customers, for which they typically pay a relatively low rate of interest, and lending the deposits to borrowers at a higher rate of interest. These borrowers may be individuals purchasing homes, cars, and other things or they may be businesses financing working capital needs, equipment purchases, etc. Banks may also generate revenue from services such as asset management, investment sales, and mortgage loan maintenance.
In addition to commercial banks, major types of banks include savings banks, trust companies, and central banks. Savings banks are similar to commercial banks but they are geared toward serving individuals rather than businesses. They take deposits primarily from individuals, and their investment activity is limited by the federal government to specific non-commercial investments, such as home mortgage loans. Trust companies act as trustees, managing assets that they transfer between two parties according to the wishes of the trustor. Trust services are often offered by departments of commercial banks. Central banks are usually government-controlled institutions that serve regulatory and monetary management roles. Among other activities, central banks may issue the nation's currency, help to determine interest rates, collect and disburse government resources, and issue and redeem government debt.
Savings banks, savings and loan associations (S&Ls), and credit unions are known as thrift institutions. Like commercial banks, thrifts are depository institutions and are distinguished from nondepository institutions such as investment banks, insurance companies, and pension funds. S&Ls traditionally have taken savings, time, and demand deposits as their primary liability, and made most of their income from loaning deposits out as mortgages. Credit unions are financial cooperatives designed exclusively for the purposes of serving their members, or "owners." Credit unions are nonprofit financial institutions and are generally as concerned with community involvement as with profits. One of the main differences between credit unions and banks relates to the fees that they charge. Banks typically charge higher fees for such items as stop-payment orders, below minimum balances, and check bouncing, as these fees help to increase the bottom line for banks. Credit unions are typically more forgiving concerning service fees. They provide a lower cost, "friendly" savings investment option, while still maintaining competitive interest rates as well as a wide variety of financial services for their members.
Most commercial banks are operated as corporate holding companies, which may own one or several banks. Because of regulatory constraints, banks that are not associated with holding companies must operate under restrictions that often put them at a disadvantage vantage compared with other financial institutions. Holding companies are often used as vehicles to circumvent legal restrictions and to raise capital by otherwise unavailable means. For instance, many banks can indirectly operate branches in other states by organizing their entity as a holding company. Banks are also able to enter, and often effectively compete in, related industries through holding company subsidiaries. In addition, holding companies are able to raise capital using methods from which banks are restricted, such as issuing commercial paper. Multi-bank holding companies may also create various economies of scale related to advertising, bookkeeping, and reporting, among other business functions.
Commercial banking in the United States has been characterized by: 1) a proliferation of competition from other financial service industries, such as mutual funds and leasing companies; 2) the growth of multibank holding companies; and 3) new technology that has changed the way that banks conduct business. The first two developments are closely related. Indeed, as new types of financial institutions have emerged to meet specialized needs, banks have increasingly turned to the holding company structure to increase their competitiveness. In addition, a number of laws passed since the 1960s have favored the multibank holding company format. As a result the U.S. banking industry had become highly concentrated in the hands of bank holding companies by the early 1990s.
Electronic information technology, the third major factor in the recent evolution of banking, is evidenced most visibly by the proliferation of electronic transactions. Electronic fund transfer systems, automated teller machines (ATMs), and computerized home-banking services all combined to transform the way that banks conduct business. Such technological gains have served to reduce labor demands and intensify the trend toward larger and more centralized banking organizations. They have also diminished the role that banks have traditionally played as personal financial service organizations. Finally, electronic systems have paved the way for national and global banking systems.
Small business is the fastest-growing segment of the American business economy. As a result, more and more commercial banks are creating special products and programs designed to attract small business customers. It is vitally important for entrepreneurs and small business owners to develop a comfortable, productive relationship with a bank in order to meet their current and future financing needs. Ideally, as Gibson Heath indicated in Doing Business with Banks, a banker should be part of a small business owner's team of outside advisors (along with an attorney, an accountant, an insurance agent, and other specialty consultants). The banker's role on that team is to assist with the business's overall financial needs, from savings, checking, and retirement accounts to employee benefit plans, loans, and investments.
Before selecting a bank and establishing a relationship, an entrepreneur should take steps to understand his or her current financial needs and plan for future ones. It may be helpful to examine the business's current position, immediate monetary needs, future cash flow requirements, level of credit worthiness, and ability to repay loans through a detailed review of the company's financial records and other pertinent documents (i.e., the business plan, balance sheet, income statement, cash flow projections, tax returns, and owner's personal financial information).
There are a number of factors a small business owner should consider when selecting a bank, including its accessibility, compatibility, lending limit, loan approval process, general services provided, and fees charged. Perhaps the best way to approach banks is to obtain referrals to business representatives or loan officers at three to five banks. This approach aids the small business owner by providing a recommendation or association from a known customer, and also by providing the name of a specific banker to talk to. The company's accountant, business advisors, and professional contacts will most likely be good sources of referrals.
The next step in forming a positive banking relationship is to arrange for a preliminary interview at each bank to get a feel for its particular personnel and services. It may be helpful to bring a brief summary of the business and a list of questions. The small business owner should also be prepared to answer the bankers' questions, including general information about the business, its primary goods/services, its financial condition, its banking needs, and the status of the industry in which it operates. All of these queries are designed to solicit information that will enable the institution to evaluate the small business as a potential client. After all the face-to-face meetings have taken place, the small business owner should compare each bank to the list of preferred criteria, and consult with his or her business advisors as needed. It is important to notify all the candidates once a decision has been made.
Ideally, a small business's banking relationship should feature open communication. Consultants recommend regular appointments to keep the banker updated on the business's condition, including potential problems on the horizon, as well as to give the banker an opportunity to update the small business owner on new services. The banker can be a good source of information about financing, organization, and record keeping. He or she may also be able to provide the small business owner with referrals to other business professionals, special seminars or programs, and networking opportunities.
Heath, Gibson. Doing Business with Banks: A Common Sense Guide for Small Business Borrowers. DBA/USA Press, 1991.
Jacksack, Susan, ed. Start, Run and Grow a Successful Small Business. CCH, Inc., 1998.
Koehler, Dan M. Insider's Guide to Small Business Loans. PSI Research, 2000.