Call To Action: How to Solve the Underbanked / Unbanked Problem?

One of the coolest things about being a venture capitalist is that you hear a lot of super interesting business ideas from fascinating people trying to solve complex problems. As a result, we generally come up with a lot of ideas on our own. But, the responsibilities that come along with this job mean that we don’t have the free time to act upon our new business ideas. Instead, we just give them away for free on the internet.

I have a call-to-action of sorts, something for budding high-potential entrepreneurs to chew on and get their entrepreneurial juices flowing. While I can’t provide a complete, fully formed business plan, I do want to at least offer a little inspiration.

So first, let’s talk about the problem that we are trying to solve. There are approximately 10 million unbanked or underbanked American households, according to the FDIC. It goes even deeper than that - according to the FDIC: “27% of US households do not have regular access to banks and other mainstream financial services”. What exactly does that mean? Unbanked individuals are adults without an account at a bank or another, comparable financial institution. Underbanked individuals are those who do not have regular sufficient access to an account at a financial institution and as a result cannot take advantage of various financial instruments like a loan or a credit card. These households, as a result, have to rely upon less-desirable forms of financial resources, such as cheque cashers, loan sharks, and pawnbrokers. People typically end up underbanked because they do not have sufficient funds to take advantage of even the simplest bank services or because there is some level of language barrier that prevents them from using a real bank. However, there are tons of other reasons for the issue and it can get very complex.

So you might be asking, what’s the big deal? If you can’t afford a bank account, you maybe don’t deserve one. But there is so much more that goes into it - frequently people just don’t have physical access to a bank branch or they don’t have a smartphone. Or sometimes an underbanked individual has a very negative financial history and as a result can’t meet requirements to open a bank account, even if they have the money.

But even if a person doesn’t have enough money to open a bank account, the real problem starts with the alternatives. An underbanked household will typically have to resort to alternative financial institutions, like payday lenders, who will charge exorbitant fees just to cash checks. While it is easy to blame payday lenders for these high rates since they are just doing their best to price risk, there has to be a better way. Financially marginalized individuals are stuck in an unbanked cycle because they are unable to save enough cash for a bank account. And they can’t save enough cash for a bank account because of these extra fees and charges they are paying to alternative lenders.

One trend we have seen startups (particularly in the fintech space) take advantage of is utilizing data to better understand a consumer and to better price risk (here in Columbus, Root & Beam come to mind). As a result, we should be able to provide better risk-adjusted models of financing to households who don’t meet the traditional banking requirements. These models could include proactive education on behalf of the financial institution, such as offering discounted rates when a client takes a variety of personal finance classes or waiving fees in return for purchasing long term financial assets, like a Certificate of Deposit.

I am particularly partial to offering educational services that in turn lower rates and increase the number of banking services offered. This could provide a new, positive data point for bankers when pricing risk - if someone improves their financial literacy, they should, in theory, be better banking clients. And as financial literacy improves, they can take more advantage of future financial services.

While I recognize that my suggestion is much easier said-than-done, I do think that there is a massive opportunity here. There are millions of people who just don’t have the resources available to improve their financial station in life. If a company were to provide them the tools to do so, there would likely be plenty of financial benefits that would follow. I did a very brief search if there was anything like this out there, but couldn’t find anything that matches the profile.

So what do you think? Are there any ways you could think of solving this problem?

Peter G Schmidt