Ever wondered why banks pay you interest for keeping your money with them? Where do they earn this money from, and how do they calculate how much they should pay you? The singular answer to all of this is that banks run on a profit model, just like any other business. You, as a shareholder, keep your assets with the bank, and the bank shares part of the profits it makes using your assets with you. However, it is important to understand the mechanism by which banks make a profit, especially to explain how they build a too-big-to-fail enterprise.

• Banks sustain themselves by charging more interest when they loan out and paying you less interest on your deposit.
• Banks penalise you when you (along with other customers) make late payments because it can potentially affect their investment plans.
• Banks make money out of Forex conversions.

The bank’s profit model has many components; let us try and understand a few.
 

Net interest margin

Maintaining a profit margin that is higher than the interest the bank charges from you is the basic tenet of its profit model. Banks charge a much higher interest when they lend out money to business enterprises than the percentage it charges you as interest. The difference between these two rates is not arbitrary; it is linked to the current functioning of capital in the market based on the rate at which other profit-making corporations are making money.
 

Banks offer you different interests based on the model you follow while depositing your money. Interest rates differ depending on whether you have a savings account or a fixed or recurring deposit with the bank. Banks cover the expenses thus made in the form of interest paid and make a profit over it by giving out money in the form of home loans, educational loans, personal loans, etc. at a higher interest rate.
 

Interchange fees

Interchange refers to the point of transaction you have with any merchant by using your debit or credit card. Banks charge a percentage of this transaction from the merchant, which is why you will see some merchants charging more or offering fewer discounts when you pay via your debit card.
 

ATM-related fees

Banks have a fixed charge if you exceed the number of ATM transactions they allow. There are separate limits for the number of times you can withdraw funds from ATMs of other banks, exceeding the fee you need to pay. This feature of the banks’ profit model is bothersome to many, but it is justified given the ease of fund withdrawal.
 

Minimum balance fees

Banks have a stipulated minimum balance rule that you must adhere to. Effectively, it means that you cannot withdraw funds beyond a certain limit set by the bank, failing which you must pay the bank a fee. Banks ensure this minimum balance because they need to: a) invest a determined sum of money that is generated per account, and b) the money adds to the ‘provisions’ component of the bank that they use in case a loan turns bad.
 

Late payment fees

Banks have a specific date on which they deduct your EMIs or recurring payments. If you do not have enough funds for the deduction to be made, banks may impose a late fee on your account. You might wonder what happens if you forget to pay the fee and you have the necessary balance available in your account. Well, in that case, too, you are liable to pay a late fee. To avoid this frustrating issue, you can activate the auto-debit feature on your account and forget about every pending payment.
 

Investment fees

Banks make a lot of money through a profit model that is varied and strategic. Banks charge a fee for the investments they allow you to make via their platform. Furthermore, banks also make investments on government bonds, and thus have a good cover against market volatility since these bonds are always valid.
 

Forex

During foreign exchange transactions, banks act as brokers and earn commissions on the transactions and the currency conversions made during the process.