What is a neobank?

Consumers increasingly want to connect with their banks digitally, rather than at brick-and-mortar branches. Neobanks are taking advantage of this trend to offer superior online and app interactive experience. 

What is a neobank?

A neobank is a digital-only bank without physical branches. Unlike traditional banks, neobanks are accessed entirely via online banking or a neobank app. These banks serve different groups of customers, including tech-savvy younger users who prefer to do their banking remotely, underbanked groups, and businesses with changing and emerging needs. Neobanks often partner with traditional, chartered banks for a mutually beneficial relationship that allows the traditional bank to reach new customers, while it provides the neobank with insurance for deposits. When a traditional chartered bank uses Banking as a Service (BaaS) technology to service fintech customers on its own, Treasury Prime refers to it as a fintech bank. The key difference is that fintech banks are chartered whereas neobanks are not.  Neobanks are a subcategory of Fintech.

The top neobanks by valuation in the United States are Chime ($5.8 billion), SoFi ($4.8 billion), Upgrade ($1 billion), and Dave ($1 billion.) Other neobank examples include Aspiration, which brands itself as a “clean money” option; Zibo, a neobank for landlords; and Zeta, which offers joint accounts for couples and families. 

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What are the benefits of neobanks?

As digital-first organizations, neobanks can offer smooth and fast digital service to users. Speed and simplicity helped these newer fintech companies gain U.S. users in 2020 when the federal Treasury Department distributed stimulus checks, according to Reuters:

“In some cases, the companies pre-funded deposits they expected their customers to receive from the Treasury Department. In others, they received funds quickly and sent them through faster than traditional banks. That generated praise from individuals who celebrated their early deposits online and encouraged others to join their digital banks.”

Neobanks are also nimble because they carry less overhead than traditional banks. Neobanks don’t operate brick-and-mortar branches, and may offer fewer services than banks. This allows them to rapidly tweak their business model to meet customer needs. An example of a company that quickly pivoted is Volt, a neobank that originally focused just on consumers but later expanded to serve businesses. 

Another benefit of neobanks is that they fill unmet needs in the financial sector and can make banking more accessible. Some neobanks offer no-interest payday loans, or serve people who are unbanked and have no credit. Others meet the changing needs of entrepreneurs. One example is Karat, which targets online creators who may have trouble opening business accounts due to their non-traditional finances. 

What do neobanks mean for traditional banks?

Neobanks often are not chartered, meaning they have not met certain government standards for operating as a bank. So in order to insure deposits, they need to work with a traditional chartered bank. Otherwise, the neobank could lose customer money if they fold, which is a real risk for some new players. Breaking into a sector as entrenched as banking and financial services is difficult business. 

Neobanks can be great partners for traditional banks. Here are some ways they can help your bank expand into new markets:

• Neobanks can help traditional banks connect with previously unbanked users
• They can enable banks to serve customers in geographies where the bank does not have branches
• Neobanks can connect traditional banks with younger, more tech-savvy users
• Neobanks can help traditional banks offer a better, faster digital user experience
• They can help banks serve consumers in niche and emerging markets
• They can help banks connect with businesses and entrepreneurs who need tools the bank currently does not offer

What should you look for in a neobank?

If you are a traditional bank looking to partner with a neobank startup, look for one whose executives have a solid mix of technology and traditional banking experience. Working with a Banking as a Service (BaaS)/banking Software as a Service (banking SaaS) provider whose API baking tools you already know and trust can make connecting with a quality neobank partner easier. 

If you are considering using a neobank as a consumer, check to make sure that either it is chartered in your country, or that it banks with a chartered bank. In the United States, you want to make sure the neobank is able to insure deposits through the Federal Deposit Insurance Corporation (FDIC). Normally neobanks will advertise these qualifications on their websites. If the website doesn’t mention working with an established bank or insuring deposits, that’s a red flag. You also want to fact-check any such claims. Look up the neobank on Wikipedia, NerdWallet, or a trusted business news source to learn more about its reputation. 

Aside from making sure the neobank you choose will keep your money safe, you’ll want to compare features and offerings. Do they offer good returns on savings accounts? Will they work with people with your credit profile? Do they have services tailored to your business? Can they help you with a change in your financial situation, such as starting a joint account with a partner? Can they help you connect with a loan that you need?

What is the future of neobanks?

The COVID-19 pandemic put pressure on banks to accelerate their digital transformations. U.S. Bank, for example, closed hundreds of branches in 2020 as more customers opted for digital banking. But even before the pandemic created new hurdles to in-person banking, the shift to digital was accelerating. And there’s room for further growth. As recently as 2019, roughly one in five banked households primarily accessed their bank accounts by bank teller, according to the FDIC. 

Millennials are more likely than older generations to switch banks. Both Millennials and Gen Z are also more likely than older generations to use mobile banking apps. The larger shift toward digital combined with generational trends mean the neobanking industry will keep growing. 

That said, neobanks won’t replace chartered financial institutions. The two can work together for a best-of-both-worlds solution. Traditional banks offer experience, security, and time-tested regulations. Neobanks, meanwhile, have the capability to offer better digital experience and to make banking more accessible for more people.