Generally speaking, assets are something a person or company owns that can provide future financial benefits. Good examples of financial assets include cash, inventory, accounts receivable and equipment, to name a few.
Liabilities, on the other hand, consist of money that must be paid or services that must be performed. A solid company will have more assets than liabilities, which means it can satisfy its obligations.
A bank deposit can be a liability or asset, depending on the type. Find out what constitutes banks assets and liabilities and increase your financial savvy by learning the following basic banking terms.
Bank Balance Sheets
Before you learn about assets and liabilities, it’s important to know a bank keeps track of them by using a financial statement called a balance sheet or statement of financial position. A bank’s assets are things it owns and its liabilities are things it owes to other people. Typically, accountants list assets on the left and liabilities on the right of the balance sheet.
Balance sheets use this basic accounting equation: assets – liabilities = owner’s equity. The equity is what’s left over after all liabilities have been taken into account. The owner’s equity — in this case, the bank — also reflects how much the bank itself put into the business and the bank’s net income that hasn’t been withdrawn.
The first items a bank lists on its balance sheet is its liabilities, which represent funds for the institution. There are two types of liabilities: current and noncurrent.
Noncurrent liabilities represent a bank’s long-term financial obligations it must pay in a year or more. Current liabilities are those that banks must pay within a year.
Deposit accounts are the most important bank liabilities and checking accounts are high on that list. Because a bank must let its customers withdraw money immediately from their checking accounts, the bank essentially “owes” them that money, which makes these account liabilities. In addition, because checking accounts typically come with a low interest rate — if any — they are usually a bank’s cheapest source of funds.
Savings accounts are another bank liability since they are considered non-transaction deposits. These types of accounts earn interest and don’t have check-writing privileges.
Borrowings are also a type of bank liability. A bank borrows when it is able to lend funds to a borrower for a higher interest rate than it paid to borrow them. Don’t confuse borrowings with deposit accounts. Banks borrow from the Federal Reserve or other financial institutions.
When a bank earns interest from borrowers paying off loans, that money becomes a liquid asset. Liquid assets are made up of bank cash that is kept in a safe or vault, deposits that are held at another bank, as well as deposits that are held at the Federal Reserve. Marketable securities, like T-bills, T-notes, T-bonds and municipal bonds, represent another type of bank asset. Sometimes called secondary reserves, these are liquid securities a bank can sell quickly if it needs cash reserves.
Loans are an important source of income for banks and a solid asset. The downside of loans is the greater chance of their defaulting than other types of assets. Banks make up for this risk by charging higher interest rates for loans than marketable securities.
Read: How Do Banks Make Money?
Federal Funds Market: Assets or Liabilities
As mentioned, each bank is required to hold cash reserves in a vault in addition to Federal Reserve deposits. The fed sets the amount of reserves a bank must hold to ensure its depositors can withdraw their money.
The federal funds market enables banks that have reserve balances that exceed the fed’s requirements to lend those extra reserves to other banks with reserve deficiencies. These loans are typically made for one day only and must be returned overnight.