The perils of using payment apps as your bank account

Some people collect coins or stamps. For a time, I collected debit cards. Not stolen ones! Each one of them had my name on them, right below the logo of the latest banking app I’d decided to try out: Venmo, Cash App, Chime, Varo, Current, Acorns.

For the better part of a decade, I did all my banking through these apps, enjoying their slick user experience and lack of fees. The problem with every one of them, however, is that they’re not chartered banks. If the company behind the app went bankrupt, the Federal Deposit Insurance Corporation (FDIC) would not necessarily come to my rescue.

This disaster scenario was a hypothetical worry when I eventually settled for Chase and its FDIC insurance. For millions of others, it became a reality earlier this year when a company called collapsed and froze them out of their accounts. Users of Yotta, a popular savings app with a built-in lottery, and other apps that relied on Synapse to help manage their accounts couldn’t access their money for months. Now, as hundreds of thousands of Synapse customers’ dollars remain in limbo, Sens. Elizabeth Warren (D-MA) and Chris Van Hollen (D-MD) are calling for banking reforms, and the FDIC is proposing changes to its rules.

Still, a growing number of people are embracing these financial technology, or fintech, services. More than a third of Gen Z and millennials used a fintech app or a digital bank as their primary checking account, according to a 2023 Cornerstone Advisors study.

So some questions are worth asking: Is it a bad idea to use an app like Venmo as your main bank? Are digital banks like Chime trustworthy enough?

The answer to both questions is yes. Venmo is not a bank, and using it as your primary checking account comes with some risks. Some fintech companies, like Chime, are just as big as traditional banks and offer some nice perks. Again, because they’re nontraditional, there are risks.

“You’re not going to go back to a world where everybody works with a small bank and walks into a branch,” Shamir Karkal, co-founder of Simple, one of the first digital banks. “The future is just going to be more fintech, and I think we all just need to get better at it.”

To get better at all of this, it helps to know what’s going on behind the scenes.

Neobanks and money transmitters, briefly explained

The term fintech can refer to a lot of things, but when you’re talking about everyday services for everyday people, it typically refers to either neobanks or money transmitters. Chime is a neobank. Venmo is a money transmitter. They’re regulated in different ways, but because most of these companies issue debit cards, many people treat them like checking accounts. Fintech apps are not the same thing as FDIC-insured banks.

Neobanks are fintech companies that offer services like checking accounts in partnership with chartered banks, which are FDIC-insured. Neobanks sometimes enlist intermediaries known as banking-as-a-service, or BaaS, companies, which are not FDIC-insured. Still, you will often see the FDIC logo on neobank websites, just like you see it stuck to the glass doors of many brick-and-mortar banks. That logo instills trust, and thanks to their partnerships, neobanks can claim some FDIC protections. But because they do not have bank charters, these neobanks and BaaS companies are not directly FDIC-insured. Instead, neobank customers can be eligible for something called pass-through deposit insurance coverage.

Pass-through insurance is a simple concept that’s deceivingly complex in practice. Essentially, if you deposit money into an account with a neobank, like Chime, the funds get routed to a chartered bank that is FDIC-insured. Other fintech apps, however, sometimes route your money through one of those BaaS intermediaries. If the chartered bank fails, no problem: FDIC insurance kicks in, and you can recoup up to $250,000 of your deposits. If the intermediary fails or the neobank itself fails, you might be eligible for pass-through insurance — but you might not. In its explainer about when or if you’ll get your money back in these kinds of situations, the FDIC literally says, “It depends.”

“American consumers see the FDIC logo, and they interpret that as meaning: My money is safe and I will get it back,” said Jason Mikula, who runs the popular Fintech Business Weekly newsletter. “That’s just not what FDIC does exactly.”

Money transmitters, also known as money services businesses, are even further removed from the perceived safety of the FDIC. Put bluntly, if you’re keeping all your money in a Venmo or Cash App account, you don’t qualify for FDIC insurance. Money transmitters are not neobanks or banks at all but rather completely different legal entities that are regulated by individual states as well as the Department of the Treasury. There are certain protections provided by these agencies, but FDIC insurance is not one of them.

So when an app like Yotta or Chime says on its website that it’s FDIC insured, it’s not a lie, but it’s not necessarily true either. To borrow the FDIC’s phrase, it depends — namely on how well records are kept. Poor record-keeping leads to confusion over whose money is where, and that could affect who qualifies for FDIC insurance.

There’s a big range in how fintech companies operate. Yotta uses multiple intermediaries between its consumer-facing app and partner banks, which led to confusion when one of them, Synapse, went bankrupt. Chime, however, has a direct relationship with its FDIC-insured partner banks, the Bancorp Bank and Stride Bank. In a recent letter to regulators that outlined its record-keeping practices, the company wrote, “Chime members are always a customer of an FDIC-insured bank.”

Venmo, to its credit, admits in the fine print of its homepage that its parent company PayPal “is not a bank” and “is not FDIC insured.” To confuse you even more, however, certain PayPal services that enlist a chartered bank partner, like a PayPal Mastercard or savings account, might qualify for FDIC insurance. Again, it depends.

The perils and perks of banking with an app

Fintech companies take careful steps to make banking with them feel safe. They include the FDIC logo on the website to provide customers with some peace of mind, even though the fine print on those protections is more complicated. They issue debit cards with the Visa or Mastercard logo to suggest that these cards play by the same rules as any big bank’s debit card. These logos can act as a stamp of approval, an assurance that your money is in good hands.

This is actually the heart of the problem, as far as is concerned. This month, she and Van Hollen asked regulators to ban neobanks and fintech companies from using the FDIC name and logo if they were only offering pass-through insurance. They also called for greater supervision of these companies under the Bank Service Company Act.

“The average consumer shouldn’t be expected to understand the intricacies of FDIC insurance in order to comfortably and safely save or invest their money,” Warren’s letter says. “Consumers must feel confident that they are dealing with a regulated and insured entity when they see the FDIC logo.”

That doesn’t necessarily mean that all neobanks and fintech companies are untrustworthy. In some cases, the sheer size and track record of fintech companies can instill quite a bit of trust. Chime, the largest digital bank with roughly 22 million customers, scored a $25 billion valuation in its latest round of funding and is planning to go public next year. PayPal is widely considered safe and trustworthy. And don’t expect Block, the $42 billion company that owns Cash App as well as its own chartered bank, to fail any time soon.

The truth is, even if there is some false sense of security, fintech apps offer certain customers features that big banks can’t or won’t. One thing that’s made Chime and many other neobanks so popular, for instance, is that they don’t charge so many fees. That’s a huge boon to young people as well as people without bank accounts. If a fintech app is your only option, then you might not care so much about FDIC insurance.

“If you’re poor in America and you’re banking at Chase or Wells Fargo, you’re going to get overdraft fees, minimum balance fees,” Mikula said. “So there is a real need that [fintech] companies fulfill as a result of your establishment banks essentially not wanting to bank poor people because it’s difficult to do profitably.”

As many as 6 percent of Americans were living without a bank account in 2023, according to Federal Reserve data. That share grows to 23 percent for those making less than $23,000 a year. The unbanked population, which disproportionately comprises Black, Hispanic, and undocumented people, is at a greater risk of falling victim to predatory lending practices, including payday loans. Some fintech companies also offer short-term loans, though they’ve been criticized for being predatory as well.

Still, fintech companies offer the unbanked the ability to save money and build credit. For someone who can’t open a traditional bank account, Venmo can be a lifeline, since they can add funds to their Venmo balance and then pay bills using their Venmo debit card without needing a traditional checking account. If they have access to a smartphone, getting basic banking services is simple these days.

As I learned firsthand when testing out many of these services over the years, it’s easy to sign up for and easy to deposit money into a fintech app. If you have a problem, however, help can be hard to find. Many fintech companies and neobanks, including Chime, lack brick-and-mortar locations, which means you can’t walk into a branch to get an issue resolved. In fact, poor customer service is a common complaint for these companies.

That means you should always research a company before giving money to it. Read the reviews and study the fine print. Obvious red flags include hidden fee structures and reports of customers not being able to withdraw their money. You should also consider trying services out with small sums rather than your life savings. And, as always, watch out for scams and frauds.

What is true in the real world is even more true in the app world: Beware of deals that look too good to be true. Only gamble with what you’d be willing to lose.

Clarification, November 25, 5 pm ET: This story, originally published September 28, has been updated with additional details about how pass-through FDIC insurance works.

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