What Is a Neobank (and Should You Try One)?

Young woman using smartphone to connect to her neobank account
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If you can’t stand the phrase “that’s the way we’ve always done it,” you may want to check out neobanks for money management. Neobanks are financial technology firms that offer internet-only financial services and lack physical branches.

This broad category of financial services providers appeals to information-hungry consumers who are comfortable with technology. They can also bring down banking costs and expand services to the underbanked. Understand how neobanks work and what they offer to determine whether they're right for your needs.

Neobank Operations

The term neobank is fluid, but there are several ways to understand these banks that challenge the norms of traditional retail banks.

Unlike traditional banks and credit unions or even online banks, neobanks generally:

  • Aren't chartered with state or federal regulators as banks
  • Provide a streamlined process designed mainly for mobile devices
  • Partner with traditional banks to federally insure customer deposits
  • Don't extend credit (such as overdrafts)

From a customer’s perspective, a neobank might amount to nothing more than an app you use to manage your money and make decisions. They’re typically easy to work with—you can often establish a relationship with a neobank and start using its services without signing any physical paperwork.

Neobank Products and Services

Neobanks offerings are similar, albeit more limited, than those at traditional banks and credit unions. They generally include:

While most neobanks offer limited or no credit offerings to limit their risk (you'll usually have to do without overdraft protection), some offer loans for individuals and businesses through partner banks and credit unions. Others like SoFi were lenders before they offered neobank features, and have the ability to originate loans and deposit accounts.

Some financial products from neobanks add functionality and make it easier to use your traditional bank and credit union. For example, Qapital lets you link a checking account and automatically move money from that account into your savings account when you meet pre-defined rules (every time you make a recurring expense under a set budget, for example). Neobanks don’t replace traditional financial institutions, but you might use their services instead of (or at least more often than) your bank account.

The most interesting neobanks are probably fintech startups that aim to improve your banking experience through cutting-edging features like the ability to pause your debit card with a single tap in an app to prevent unauthorized transactions without canceling your card.

Financial Institution Relationships

A minority of neobanks are startups that go to the trouble of becoming chartered banks. But that’s a significant undertaking. Others form alliances with existing banks, allowing them to offer FDIC insurance on the money you hold with the service. For example, Chime is a neobank that partners with The Bancorp Bank and Stride Bank to insure customer deposits.

Big banks also see a demand for new ways of doing business, and they’re rolling out new offerings (or familiar products with new names) to compete with neobanks and appeal to a mobile consumer base and underbanked populations. Bank of America, for example, offers an artificial-intelligence-driven virtual financial assistant dubbed "Erica" in its mobile app.

Safety of Neobanks

These innovative institutions are as secure or more so in certain respects than traditional banks and credit unions. But the catch is that your deposits aren't always federally insured at a neobank, which can be risky.

For example, PayPal might be an example of an early neobank. With PayPal, you link bank accounts and payment cards and store money (but it’s not FDIC-insured unless you're enrolled in features that include "pass-through" insurance from a partner FDIC-insured bank). PayPal makes it safer to shop online because you can:

  • Avoid providing credit card numbers and bank account information to unknown websites
  • Potentially use PayPal’s buyer protection features if there’s a dispute
  • Choose from multiple funding sources whenever you pay (with just one login)

If you just use your primary banking relationships, you might have fewer security features, and you might expose your bank account to potential fraud and errors.

Pros of Neobanks

You can look forward to several advantageous features of neobanks:

  • Low costs: Fewer regulations and the absence of credit risk allows neobanks to keep their costs low. Products are typically inexpensive, with no monthly maintenance fees.
  • Transparency: Expect fewer “gotchas,” like surprise charges and exorbitant overdraft penalties. Neobanks often only let you spend what you have.
  • Useful technology: If you’ve ever wondered why you can’t just do something simple on a mobile device, neobanks promise to let you do more. In addition to basic banking tasks, you should be able to manage your finances and predict activity in your accounts to prevent problems.
  • Faster and easier loan approval: Neobanks that offer loans prefer to skip the rigid and time-consuming loan application processes and use innovative ways to evaluate your credit and speed up the process. For example, SoFi lets you pre-qualify for a loan and see your interest rates within minutes.

Cons of Neobanks

The disruptive change that these institutions afford is often good, but be aware of several challenges.

  • Uninsured deposits: Funds at a neobank may or may not be insured by the Federal Deposit Insurance Corporation (FDIC) or National Credit Union Share Insurance Fund (NCUSIF) coverage. If you keep money with a neobank, verify that deposit insurance exists or decide to accept the significant risk of going without it.
  • Fewer regulations: Since neobanks aren't legally considered banks, you might not have any legal recourse or well-defined processes to follow if there’s a problem with an app or its functionality, new services, or non-regulated third-party service providers. There may be confusion as to who will be responsible for resolving the issue.
  • No branches: it’s becoming increasingly easier to do everything online, but some people want the ability to visit a bank branch since you can get a lot done in person, especially when it comes to complex transactions.

Even without branches, neobanks like Chime allow you to deposit cash at retail stores and use a vast network of ATMs at no charge.

Are Neobanks Worth It?

For the most part, neobanks have had a positive impact on financial management and can improve your relationship with your money through a suite of familiar as well as novel products, services, and account features. They're particularly suited for tech-savvy consumers who desire a bank-like experience in a mobile-friendly format. But there are drawbacks to consider and might be a few bumps in the road ahead of these evolving institutions.

When deciding between a neobank and a traditional bank or credit union (or an online equivalent), weigh the convenience against the lack of physical branches, but know that's not an either-or proposition. In fact, since neobanks can't necessarily replace a full-fledged bank, consider holding accounts with neobanks and retail banks to make the most of your money.

Article Sources

  1. Sutardja Center for Entrepreneurship & Technology at the University of California, Berkeley. "Applied Innovation Review Issue 1," Page 32. Accessed May 28, 2020.

  2. The Wharton School at the University of Pennsylvania. "From Book to Bank: How a Fintech Firm Found Its Calling." Accessed May 28, 2020.

  3. SoFi. "SoFi Announces Availability of SoFi Money and Invest Products to Help You Get Your Money Right." Accessed May 28, 2020.

  4. Qapital. "Linked Accounts." Accessed May 28, 2020.

  5. Office of the Comptroller of the Currency. "Remarks by Thomas J. Curry Comptroller of the Currency Before the Federal Home Loan Bank of Chicago," Page 6. Accessed May 28, 2020.

  6. Chime. "What Type of Account Is My Chime Account?" Accessed May 28, 2020.

  7. Bank of America. "Bank of America Delivers First Widely Available AI–Driven Virtual Financial Assistant." Accessed May 28, 2020.

  8. PayPal. "What Is FDIC Insurance and How Does It Work?" Accessed May 28, 2020.

  9. PayPal. "Why Should I Link a Bank Account or a Card to My Paypal Account?" Accessed May 28, 2020.

  10. PayPal. "What Is Paypal Buyer Protection and How Am I Covered?" Accessed May 28, 2020.

  11. SoFi. "How to Get Approved for a Personal Loan." Accessed May 28, 2020.

  12. Chime. "Where Are the ATM and Cash-Back Locations?" Accessed May 28, 2020.

  13. Chime. "How Do I Deposit Cash in My Chime Account?" Accessed May 28, 2020.