Deposit protection scheme: why your money is protected

From regular wages to life savings, Deposit Protection Schemes apply to a sum of money up to €100,000 left with a bank or building society. This is a valuable protection net as the vast majority of finances are held electronically, rather than in physical cash. In this article, we’ll explain how these schemes work.

Banks are businesses, and like all businesses, banks can go bankrupt. The trouble is, when they do, they have millions or billions of euros of other people’s money held in their accounts. Without deposit protection, if a bank collapses, customers could lose their money. This creates a fragile relationship between banks and customers. After all, no one wants to lose money through no fault of their own.

That’s where Deposit Protection Schemes come in. Due to EU legislation, all countries within the EU are obliged to set up at least one Deposit Protection Scheme on a national level. All national schemes comply with the EU minimum deposit protection, for amounts up to  €100,000. 

Each country has a designated organization, and the European Banking Authority oversees these across the EU. Therefore, anyone banking within EU countries is covered by a Deposit Protection Scheme, as all banks are legally required to opt-in—this means that your money is protected if your bank goes insolvent.

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The Deposit Protection Scheme was first introduced in 1994. When the Deposit Protection Scheme was introduced to Europe, there were no strict rules on the level of support individual countries provided—one country could protect up to €20,000, while another could protect up to €60,000. The ineffectiveness of this imbalance became clear during the 2008 recession, which was one of the biggest economic crises in history.

During the crisis, banks all across the world were affected. Because of the lack of consistency between European banks, the EU economy was badly impacted. According to the European Central Bank, “the financial crisis showed that banking problems do not stop at national borders.” This led to the EU introducing special crisis management tools, and greater harmony between EU countries, to strengthen the financial system and improve banking security.

In 2009, a minimum deposit protection of €50,000 was introduced across Europe. In 2010, protection was increased to the current amount of €100,000. That means if insolvency of your bank occurs, up to €100,000 will be repaid, no matter which bank you choose.

Yet, you might be wondering why your money is at risk in the first place—let’s detour for a brief explanation of how banks invest money to make sense of the Deposit Protection Scheme. In simple terms, banks don’t operate like giant piggy banks, where money sits in an account waiting to be withdrawn. Money is moved around and invested.

Like all businesses, banks also need to make profit to pay staff and remain operational. One way they do this is by charging fees or interest on overdrafts and loans. And here’s where it gets a little complicated—the money banks loan and invest is “borrowed” from deposits in their customer’s account. The banking system relies on large numbers of customers investing their money electronically.

As a result, your full deposit isn’t necessarily covered in cold, hard cash at any given time. This is why certain savings accounts restrict withdrawals or set time periods for withdrawing large sums of money. Investments made by banks are the foundation of the banking system and have a huge influence on the global economy.

Looking at the numbers, it’s clear why banks are so influential. Deposits (the “electronic” numbers visible on your computer screen or ATM) make up 92% of the money in the economy, compared to just 8% of physical cash. This means if banks are disrupted, it has a ripple effect across the whole economy. A significant cause of these ripples are known as “bank runs.”

Bank runs are caused when large numbers of customers attempt to withdraw deposits at the same time. That’s why trust in the banking system is necessary for the market to remain stable. Without deposit protection, if there are signs of potential problems with a bank, customers may panic. This happened in the UK in 2007, when an estimated £1 billion was withdrawn by Northern Rock customers in a single day.

The introduction of Deposit Protection Schemes can make bank runs less likely, reducing the snowball effect and adding stability to the banking system. It’s a positive cycle—customers' confidence directly boosts the stability of the system, and the system’s security boosts customers confidence.

If a bank goes bankrupt, the issue becomes clear—in effect, its customers have “credited” the bank with money to invest, and they need to be paid. This is where deposit protection comes in. It’s an insurance policy ensuring that customers will be refunded up to the agreed amount if a financial emergency occurs.

All banks pay contributions to a scheme. Their payment amount is based on the bank’s risk profile which is based again on the way the bank invests. If the bank is insolvent, the Deposit Protection Scheme must be able to cover all protected deposits up to €100,000 per customer. As banks regularly pay into Deposit Protection Schemes, taxpayers' money isn’t used to cover lost funds in the eventuality of a financial crisis.

From mid-2015, customers must be reimbursed within 20 working days. However, by 2024, this time limit will be reduced to seven days. 

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The security of your money is always our top priority at N26. And not only is your bank account protected up to €100,000 by the German Deposit Protection Scheme, but it also comes packed with a series of intelligent features that keep your funds safe. For more information, check out Security at N26.