Banking Relationships of Lower-Income Families and the Governmental Trend toward Electronic Payment - includes related articles - Statistical Data Included

Federal Reserve Bulletin, July, 1999 by Jeanne M. Hogarth, Kevin H. O'Donnell

In the past three years, the federal government and many states have lowered their costs of administering welfare and benefits programs by expanding the use of electronic payment. These initiatives promise to have their greatest significance, and meet their greatest challenge, among lower-income families, the demographic group with the lowest rate of bank account ownership and the least familiarity with electronic transactions.

Although the payment programs do not require a banking relationship, the move to electronic transfer could change the financial practices of many recipients without a deposit account or with no banking relationship at all. Recipients of social security and other benefits payments who do not have a checking account may well continue to obtain cash and other financial services from alternative service providers, such as check cashing outlets and grocery stores. But in light of the increased promotion of direct deposit, many of these recipients may be more inclined to open a deposit account. The attraction of a bank account for some families without one may become heightened as governments and the payment system in general move more toward electronic transactions. An example of such a move is the federal government's introduction this summer of special accounts to be made available at depository institutions primarily for the transfer of federal payments.

In these ways, the governmental move to electronic payment may do more than the "basic banking" effort of the 1980s to spread the use of bank accounts to "unbanked" families. Moreover, the greater use of the banking system by these families could harmonize with the emphasis that welfare reform has placed on asset-building for lower-income families, a goal that may be harder to achieve without the use of a bank account. On the other hand, a move by greater numbers of lower-income families into the mainstream of the payment system is likely to be a difficult transition for many of them, given survey results on why they do not currently use the banking system.

This article examines the ways in which lower-income families obtain checking and credit services, the effects that the government move to electronic payment may have on these families and on depository institutions, and the promotional and educational efforts that may be needed to facilitate the move to electronic services.

OWNERSHIP OF TRANSACTION ACCOUNTS AND USE OF FINANCIAL INSTITUTIONS

According to the Federal Reserve Board's Survey of Consumer Finances (SCF), about 87 percent of all U.S. families in 1995 had a transaction account at a financial institution.(1) Most of these (85 percent of all families) had a checking account, and 36 percent of all families had a savings account (table 1; also see box "Account Ownership over Time").(2)

1. Ownership of transaction accounts and other financial products, 1995

Percent

                                 All U.S.    Lower-income
  Product                        families      families

Transaction account
Either checking or savings         87.4          75.8
Checking                           85.0          72.1
Savings                            36.0          25.4
Both checking and savings          33.5          21.5

Credit
Major credit card(1)               66.5          44.6
Loan
  Vehicle                          30.8          18.6
  Education                        11.8          10.6
  Consumer                         14.2          13.5

Mortgage(2)
  First                            38.7          18.1
  Second                            3.4           1.4
  Home equity line of credit       11.0           4.3
  MEMO: Owns home                  64.7          49.6

Savings and investments
Certificate of deposit             14.3          12.9
Savings bonds                      22.8          10.6
IRA or Keogh account               26.1          12.1
Mutual fund                        12.3           4.2
Stocks                             15.2           6.7
Bonds                               3.1            .6
Annuities                           3.2           2.1

Life insurance(3)
Any                                71.9          55.0
Term                               76.0          71.0
Whole life                         44.4          40.1
Both term and whole life           20.4          11.1

NOTE. Data in this and other tables in this article are from the 1995 Survey of Consumer Finances except as noted. For details and definition of lower income, see text and appendix A. For definition of transaction account and depository institution, see text note 2.

(1.) Discover, MasterCard, Optima, and Visa.

(2.) On primary residence.

(3.) Percentages of respondents holding particular types are for those owning life insurance.

IRA Individual Retirement Account.

Use of Financial Services by Lower-Income Families

The median income of the 100 million families in the United States (including single-person households) for the year preceding the 1995 SCF was roughly $32,000. At the threshold commonly used to define low to moderate income (80 percent of median income), approximately 45 percent of U.S. families in 1995, or about 45 million families, were in that category (hereafter referred to as lower income; see box "Some Characteristics of Low- to Moderate-Income Families" and appendix A).(3)