If you’ve been hearing the news lately, you may be thinking “what happened to Silicon Valley Bank and how can I keep my money safe?”
Well, let me give you a quick breakdown of how banks make money and what you can do to ensure your money is safe in case something similar ever happens to your bank.
How Banks Make Money
When you deposit your money into a bank on payday, you may think it just sits there waiting for you to withdraw it for bills or grocery shopping. But that’s not how banks work.
In order to actually make money, banks use a portion of the money they receive from deposits and invest it.
Oftentimes, banks invest their deposits by making loans to their customers such as:
- Home Mortgages
- HELOCs (Home Equity Line of Credit)
- Personal Loans
- Car Loans
- Business Loans
- Etc.
The interest they charge to people who take out those loans is how banks make a profit, pay their bills and employees, and give interest to depositors who hold their money with the bank, you!
How Much Do Banks Need to Keep In Reserve?
While banks love to invest their money in order to make more money, most banks keep about 10% of their deposits in reserve so that when people want to make a withdrawal, they can.
Let’s keep the numbers small and say 100 people all deposit $500 into their savings accounts. That means the bank would have $50,000 worth of deposits.
Of the $50,000, the bank keeps at least 10%, or $5,000, in reserves so that if people need to take their money out to buy groceries or move to another state, they will have that cash available to give them.
Most people deposit money into a bank with the intention of leaving it there for a while to earn interest and only withdraw what they need on occasion, so this system often works very well.
The bank keeps $5,000 in reserves in case people need it and can use the other $45,000 to make loans or purchase investments in order to grow that money.
So What Happened to Silicon Valley Bank?
Silicon Valley Bank is known as a startup bank. Small startup companies would get large investments and deposit them with SVB. We’re talking multi-million dollar investments so that the companies could begin production of whatever their product was while they grew.
Well, banks only keep so much money on hand for withdrawals and like to invest the rest to earn more money.
Because most of Silicon Valley Bank’s customers were startups with huge investment capital, they didn’t really need loans. Since SVB couldn’t make money offering their customers loans, they decided to invest in bonds as a “safe” investment.
And Then Came the Bank Run
Dun, dun, duuuun, after the crazy inflation period of the pandemic, the federal reserve decided to raise interest rates in order to slow down purchasing and hopefully slow down inflation as well.
As loan interest rates went up, making it more expensive to borrow money and hopefully slowing down inflation, bond interest rates had to raise too.
(A bond is essentially a loan, often to the government. You let them borrow money for a set amount of years and they promise to pay you a certain amount of interest in return.)
Well, SVB invested in bonds back when the interest rates were low, like less than 1%. Hello, 2020 and 2021!
When it came time for SVB to sell their bonds, no one wanted be buy them because bond rates are now over 6%! Most people would rather earn 6% interest than 1%, so SVB had to sell their investments at a loss.
People heard that the bank lost money and suddenly became worried that the bank would lose THEIR money and began withdrawing their deposits.
Well, banks only keep so much money on hand, so when multiple customers began withdrawing their money, SVB didn’t have enough cash on hand to fulfill all the withdrawals. This made more people freak out and want to withdraw, causing even more problems. It became a Bank Run.
So What Happened to Silicon Valley Bank?
After Silicon Valley Bank essentially ran out of money, “On Friday, March 10, 2023, Silicon Valley Bank, was closed by the California Department Of Financial Protection and Innovation The Federal Deposit Insurance Corporation (FDIC) was then appointed Receiver.”
Meaning, the bank has been closed and the FDIC has taken it over.
What Is The FDIC?
The FDIC was created in 1933 during the Great Depression when multiple banks experienced Runs. In order to ensure the American public was comfortable leaving their money in banks, the federal government had to essentially create insurance for banks.
Each Person/Business is provided $250,000 worth of coverage at each bank. So even if the bank closes, depositors will not lose up to $250,000 of their money. If they have more than $250,000 in deposits, it is possible they lose any excess.
In the case of Silicon Valley Bank, the FDIC was only responsible for covering $250,000 of deposits for each account, even if those accounts originally had millions of dollars in them. But this possibility created mass fear for those startup companies who had millions of dollars deposited. So the FDIC decided, in this case, to fully cover all deposits, no matter the amount.
Fully covering the deposits, no matter the size, saved many new businesses that banked with SVB. But this is a one-time occurrence, not guaranteed to happen in future bank failures.
What Can I Do To Protect Myself From Future Bank Failures?
So what can you do to protect yourself in case your bank ever gets shut down? While most people do not keep more than $250,000 in cash, there are those who do.
Maybe you just sold a house and have cash sitting around. You could have just gotten a windfall from an inheritance or lottery win. Or you could just be a really good saver who wants to have cash available. You might even run a successful business that requires large amounts of cash to run, like those startups at SVB. Whatever the reason, here are a few steps you can take to ensure your money is FDIC insured, no matter what happens to your banks.
How to Ensure FDIC Insurance on Your Money
1. Make sure your bank is FDIC insured
Most major banks are FDIC insured. Credit Unions are usually insured by the National Credit Union Administration (NCUA). Ensure your bank is insured before putting any money in. All you have to do is ask. They usually have a placard on the window when you open an account. (Remember PayPal, Venmo, and similar payment processing companies are NOT insured by the FDIC. If they go under, so does any money you had with them.)
2. Open Accounts Under Different Names
If you want to hold more than $250,000 at a single bank, the money should be held under different account ownerships so that each person is covered by FDIC insurance. Put $200k under your name in one account and $200k in a separate account under your spouse’s name. You can even open a third account under your business name if you have one. You just can’t open 3 different accounts in your own name as each person is only covered up to $250,000 per bank.
3. Open Accounts at Different Banks
If you’ve got a lot of cash, it is prudent to hold it in different banks. Not just different branches of the same bank, like US Bank on Smith Street and US Bank on 1st Street. They’re technically the same bank. Put $200k into completely separate banks, like $200k into US Bank, $200k into Chase Bank, $200k in your local credit union, etc.
4. Ask For Extra FDIC Insurance
If you absolutely want to keep over $250,000 in a single bank, under a single name, it may be possible to get a higher FDIC limit through your bank. You just need to ask your bank if it is possible. Some may allow it, others may not. But it never hurts to ask.
5. Diversify Your Money
Unless you have a reason to keep over $250,000 in cash, like a pending home purchase or the 3 years of living expenses some retirees like to keep in cash, diversify your money, and put it to work for you. Invest in index funds, REITs, real estate, bonds, treasuries, businesses, or whatever you feel comfortable investing in.
The secret to ensuring your money is insured in case of bank failure is to spread it out as much as possible.
Wrap-Up
While all the bank failure talk in the media may be scary, it is not the time to go and take all your money out of banks. That type of thinking will just trigger more bank runs and a bigger and longer recession.
For now, if you’ve got more than $250,000 in cash, just make sure to keep your money diversified. Most people will probably agree it’s a good problem to have.
For the rest of us, we’ll just continue to build emergency funds, invest for retirement, and try to enjoy our best lives.
What do you think? Were you shocked at all about the Silicon Valley Bank news? Do you even care? Leave a comment below and join the conversation.
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