Net interest income is the money a bank keeps from the gap between the interest it collects on loans and investments and the interest it pays to depositors and other creditors. It is the single largest source of revenue for most commercial banks and the clearest measure of core profitability. As of the fourth quarter of 2025, the U.S. banking industry reported an aggregate net interest margin of 3.39%, the highest level since 2019.1FDIC. FDIC Quarterly Banking Profile Fourth Quarter 2025
The Formula
Net interest income, often shortened to NII, equals total interest income minus total interest expense. A bank that collects $500 million in interest from borrowers and pays $200 million to depositors and other creditors reports $300 million of net interest income. That figure represents the profit generated purely from the spread between lending rates and funding costs, before loan losses, salaries, or any other operating expenses.
The number is not buried anywhere. SEC rules require banks and bank holding companies to display total interest income, total interest expense, and net interest income as separate lines on the income statement.2eCFR. 17 CFR Part 210 – Form and Content of and Requirements for Financial Statements Banks also file quarterly Call Reports with the FFIEC that break interest income and expense into granular subcategories.3FFIEC. Instructions for Preparation of Consolidated Reports of Condition and Income On any bank income statement, NII is usually among the first three lines.
Where the Interest Revenue Comes From
The loan portfolio produces most of it. Commercial loans, consumer credit, and mortgages are the highest-yielding assets on most balance sheets, and the interest borrowers pay flows straight to the top of the NII calculation. A $10 billion loan book yielding an average of 6% throws off $600 million a year in interest revenue from loans alone.
Investment securities are the second major source. Banks hold portfolios of government bonds, agency mortgage-backed securities, and corporate debt that generate steady interest at generally lower yields than loans but with lower credit risk. Those portfolios also give the bank assets it can sell quickly for liquidity.
A smaller contribution comes from funds placed at other institutions. Federal funds sold (overnight lending to other banks) and securities purchased under resale agreements both produce interest income that appears as its own line on the Call Report.3FFIEC. Instructions for Preparation of Consolidated Reports of Condition and Income The mix among loans, securities, and interbank placements sets the bank’s weighted average asset yield.
Where the Interest Expense Comes From
Customer deposits are the biggest funding cost. Interest paid on savings accounts, certificates of deposit, money market accounts, and interest-bearing checking accounts all count as interest expense. The average cost of interest-bearing deposits has been a critical pressure point in recent years as depositors have pushed for higher rates.
Banks also borrow from wholesale markets. Short-term borrowings, Federal Home Loan Bank advances, and longer-term subordinated debt carry interest costs that show up on the expense side.3FFIEC. Instructions for Preparation of Consolidated Reports of Condition and Income Wholesale funding tends to reprice faster than retail deposits, which makes it flexible but also a potential margin squeeze when rates move.
Then there is the most valuable funding of all, which is free. Non-interest-bearing demand deposits are checking accounts where the bank pays nothing for the use of the money. A bank with a large base of these accounts dramatically lowers its blended cost of funds, and Call Report instructions explicitly exclude any costs tied to non-interest-bearing demand deposits from the interest expense calculation.3FFIEC. Instructions for Preparation of Consolidated Reports of Condition and Income Two banks with the same asset yield will report very different NII if one funds itself mostly with free checking and the other with high-rate CDs.
Net Interest Margin: The Comparison Tool
Raw NII in dollar terms works for tracking a single bank over time, but it fails at comparisons across banks of different sizes. A $2 trillion bank will always outreport a $5 billion community bank on absolute NII. Net interest margin (NIM) fixes that by expressing NII as a percentage of average earning assets:
NIM = Net Interest Income / Average Earning Assets
Average earning assets include everything that produces interest or yield: the loan portfolio, investment securities, and interbank placements. The average is calculated using daily or weekly balances over the reporting period, not a single snapshot.3FFIEC. Instructions for Preparation of Consolidated Reports of Condition and Income The Federal Reserve defines the yield on total earning assets as total interest income divided by average earning assets, and NIM is that yield minus the cost of funding the assets.4Federal Reserve Board. A Users Guide for the Bank Holding Company Performance Report
Industry NIM was 3.39% in Q4 2025, while community banks reported 3.77%.1FDIC. FDIC Quarterly Banking Profile Fourth Quarter 2025 Community banks consistently run higher margins because they hold a larger share of higher-yielding loans relative to securities and fund themselves mostly with core deposits rather than wholesale borrowings. When NIM compresses quarter over quarter, funding costs are rising faster than asset yields, which is often the first warning sign of earnings pressure.
What Moves NII Up or Down
NII is not static. It shifts in response to both external forces and internal management choices.
Federal Reserve Rate Changes
The dominant external driver is the Federal Reserve’s target for the federal funds rate, currently 3.50% to 3.75%. When the Fed changes the target, the effect ripples through the entire rate structure: banks can charge more on new variable-rate loans in a hiking cycle, but they also face pressure to pay more on deposits.5Federal Reserve Board. The Fed Explained – Monetary Policy Whether rising rates help or hurt NII depends on which side of the balance sheet reprices faster.
Asset Sensitivity and Liability Sensitivity
A bank whose assets reprice faster than its liabilities is asset-sensitive. When rates rise, its loan yields climb before deposit costs catch up, widening the spread and boosting NII. A bank whose liabilities reprice faster is liability-sensitive. Rising rates push funding costs up before asset yields follow, which compresses NII.6Federal Reserve Board. Focusing on Bank Interest Rate Risk Exposure Most U.S. commercial banks have been modestly asset-sensitive in recent years, which is why the 2022-2024 hiking cycle initially widened industry margins.
Deposit Beta
Deposit beta measures how much of a Fed rate increase actually gets passed through to depositors. A beta of 0.50 means a 100-basis-point hike translates into a 50-basis-point rise in deposit rates.7Federal Reserve Bank of St. Louis. Higher Deposit Costs Continue to Challenge Banks During the hiking cycle that began in March 2022, community banks saw a cumulative deposit beta of roughly 47% by early 2024, passing along less than half of total Fed increases.8Federal Reserve Bank of Kansas City. Community Bank Deposit Pricing Becoming More Sensitive That lag widened margins early in the cycle. Betas tend to climb over time as depositors become more rate-conscious and move money to higher-yielding alternatives.
The Yield Curve
Banks fundamentally borrow short and lend long. A steep yield curve, where long-term rates are meaningfully higher than short-term rates, creates a natural spread that supports healthy NII. A flat or inverted curve compresses the spread, and the effect varies by business model: a bank funded mostly by stable retail deposits may see NIM hold up because its funding costs barely move, while a bank relying on wholesale funding can see margins narrow quickly.9Federal Reserve Bank of Chicago. How Have Banks Responded to Changes in the Yield Curve
Loan Volume and Asset Mix
Internal choices matter as much as external rates. Growing the loan portfolio puts more earning assets to work and directly raises NII. The composition of that portfolio also matters. Commercial real estate and credit card loans yield more than government securities, so shifting the asset mix toward higher-yielding categories raises the overall return, though it raises credit risk too. A bank parking excess cash in Treasury bonds instead of making loans will report a lower NIM even in a favorable rate environment.
When Interest Revenue Has to Be Reversed
Not every loan produces the interest it promised. When a borrower stops paying, federal regulatory guidance requires the bank to place the loan on non-accrual status once it is 90 days or more past due, unless it is both well-secured and actively being collected.10eCFR. Appendix B to Part 741 – Loan Workouts, Nonaccrual Policy, and Regulatory Reporting
The impact on NII runs in two directions. Future interest income on that loan stops being recorded, reducing revenue going forward. And, the part that catches people off guard, any interest already accrued but not yet collected in cash must be reversed. Interest accrued during the current calendar year gets reversed directly against the interest income line, reducing reported NII for the period.10eCFR. Appendix B to Part 741 – Loan Workouts, Nonaccrual Policy, and Regulatory Reporting Once reversed, that interest cannot be added back unless the bank actually collects the cash. A sudden spike in non-performing loans can therefore drag NII down even if the bank has not changed its rates or lending volume.
The Provision for Credit Losses Is a Separate Line
One common source of confusion needs flagging. The provision for credit losses sits directly below NII on the income statement, and the two often get treated as one figure. They are not. NII measures the interest spread the bank earned. The provision is a separate expense representing the bank’s estimate of future loan losses under current expected credit loss (CECL) accounting. Some analysts refer to “net interest income after provision” as a combined figure, but the provision is a credit cost, not an interest cost.
The distinction matters when evaluating a bank. Strong NII growth alongside a rising provision may signal aggressive lending into riskier segments. Flat NII with a declining provision may reflect improving credit quality that flows through to the bottom line. Read the two as separate stories about different risks.
Tax-Equivalent Net Interest Income
When a bank holds municipal bonds, the interest income from those securities is generally exempt from federal income tax. That creates a comparison problem: the coupon on a muni bond is not directly comparable to the yield on a taxable corporate loan. Many banks solve this by reporting a “tax-equivalent” NII that grosses up the tax-exempt income to a pre-tax basis.
The adjustment divides the tax-exempt yield by one minus the bank’s tax rate. A municipal bond yielding 3% held by a bank in a 21% federal tax bracket has a tax-equivalent yield of roughly 3.80% (3% divided by 0.79). The adjusted figure gives a more accurate picture of what those securities contribute to profitability relative to taxable alternatives. When a bank’s earnings release refers to “NII on a fully tax-equivalent basis,” that is the calculation. The gap between reported NII and tax-equivalent NII indicates how large the muni portfolio is relative to the rest of the balance sheet.