“Take the money out NOW!” hollered my wife as she heard about Wachovia’s impending collapse.
“Take a Valium. I just paid my estimated taxes, so there’s not much left anyway,” I said as I raced (again in my 200,000 mile engine-sludge-filled Honda) to the ATM to retrieve my whopping five Ben Franklins.
It seems almost every week these days, another bank bites the dust. One thought that races through my mind as the 15th of each month arrives (when I receive my exceedingly hard-earned paycheck) is “Will my money still be there the next day?”
The Federal Deposit Insurance Corporation (FDIC)
The FDIC was created by Congress after thousands of banks failed during the Great Depression and will soon celebrate its 75th anniversary. While its most commonly cited function is to insure deposits at its member banks, it also examines and regulates banks which are not part of the Federal Reserve System, and it oversees bank failures. There are a lot of misconceptions about what the FDIC does and does not do. While Congress created it, it is not a taxpayer funded entity. Rather it’s an independent agency which is funded purely by insurance premiums paid for by its member banks and earnings on Treasury bond investments. It’s almost no different than an individual paying premiums for disability insurance and receiving benefits when there is a loss of income. Almost every retail bank in America is a member of the FDIC and pays premiums accordingly. According to the FDIC, “since the start of FDIC insurance on January 1, 1934 no depositor has lost a single cent of insured funds as a result of a failure.” If that fact can’t reassure you, then you better have a bunker (and guns) in your backyard to stash your greenbacks. As of June 2008 the FDIC had reserves of over $48 billion, but that is only about one percent of the total amount of insured deposits.
The Insured and the Departed
When a member bank fails, the FDIC intervenes in two ways. First, it facilitates the transfer of the bank’s assets (loans) and liabilities (deposits) by trying to find another institution willing to assume them. Second, it directly pays off each depositor if assets and liabilities cannot be transferred. The question then becomes, “what and how much is paid off?”
The usual number thrown around is $100,000. While FDIC insurance covers checking, savings, money market accounts, and CDs, it does not cover stocks, bonds, mutual funds, or even money market mutual funds held at a member bank. It also does not cover safe deposit boxes, insurance products, or US government bonds. The amount actually covered under FDIC relates to the ownership category of each account. For example, if a single individual has $100,000 in savings, $100,000 in checking, and $100,000 in CDs in his name in the same bank, then the total FDIC insured deposits for that individual is $100,000 not $300,000. So, if the bank goes belly-up, then goodbye 200 grand. One way to avoid this scenario is to spread the money among different banks. So, you could have $100,000 in savings at Bank of America, $100,000 at Citibank, and $100,000 at your local bank. Just make sure they are not different branches of the same bank.
If you’re married, you can set up individual and joint accounts to effectively double your FDIC insured deposits. You could have a checking account in your name with $100,000, another one in your spouse’s name with $100,000, and a third one with joint titles with $200,000. The joint account is a separate ownership category and is not lumped together with your individual account. In the above example, the total amount of FDIC insured deposits is $400,000.
Finally, IRAs kept at member banks are insured up to $250,000, including Roth and traditional IRAs. This limit primarily applies to CDs kept in IRAs not stocks and other types of investments. For those EPs who are independent contractors, your SEP-IRA is included here as well.
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With the recent turmoil in the markets and the unusually high profile bank failures, as of this writing the FDIC is asking Congress to temporarily increase the FDIC insured deposit amount from $100,000 to $250,000. Both Obama and McCain apparently want to make this new amount permanent. Also, the US Treasury announced a program to guarantee money market mutual fund accounts for the next year if each fund pays a fee.
Securities Investor Protection
A quick note about your investment accounts. In 1970 the Securities Investor Protection Act created the SIPC to specifically restore investor funds in the event of the bankruptcy or failure of a brokerage firm. The latest case (Lehman Brothers) shows that it’s imperative for you to determine whether your brokerage firm is a member of SIPC. Some firms are actually “clearinghouse” firms and are not SIPC members. SIPC does not insure against investment fraud or market losses in your accounts. Further, it’s limited to $500,000 per individual for securities and $100,000 for cash. Some brokerage firms also purchase additional insurance on top of that to protect higher net worth individuals.
Setu Mazumdar MD, practices emergency medicine in Atlanta, GA and is a member of the National Association of Personal Financial Advisors (NAPFA)