What is a passkey?
A passkey lets you sign in with this device instead of typing your password. You confirm with Face ID, a fingerprint, or your device passcode. The passkey is saved by your device or password manager, such as iCloud Keychain or Google Password Manager, so you can use it on other devices signed in to the same account.
Passkey sign-in
If you sign in with an email and password, a passkey replaces that password for the sign-in. It counts as multi-factor authentication, so you are not asked for an SMS or authenticator code as well.
Passkey sign-in is not offered while SMS or an authenticator app is turned on. Turn those off before you add a passkey for sign-in.
Passkey verification
If your organisation signs you in, a passkey does not replace that sign-in. After the organisation sign-in, you use the passkey to confirm it is you. This is set up under Multi-factor authentication, not under Password.