The Federal Deposit Insurance Corporation (FDIC) and the Securities Investor Protection Corporation (SIPC) are two organizations in the United States that provide insurance protections to individuals and businesses in the banking and securities industries, respectively.
The FDIC was established in 1933 to promote stability and public confidence in the U.S. banking system. Here are the key features and protections of FDIC insurance:
- Deposit Coverage: FDIC insurance provides coverage for deposits at FDIC member banks, which include checking accounts, savings accounts, certificates of deposit (CDs), and money market accounts. As of September 2021, the standard insurance coverage is up to $250,000 per depositor, per insured bank. Many investors open multiple accounts across multiple banks to insure amounts beyond the $250,000 cap. Joint accounts have higher coverage limits up to $500,000.
- Member Banks: FDIC insurance applies to banks that are members of the FDIC. Most banks in the United States, including national banks and state-chartered banks, are FDIC members. It's essential to confirm that a bank is an FDIC member to benefit from the insurance protection.
- Protection of Principal: FDIC insurance protects the principal amount of the deposit in case of bank failures, insolvencies, or closures. If a bank fails, the FDIC typically steps in to ensure that depositors can access their insured funds.
- Types of Accounts Covered: FDIC insurance covers a wide range of account types, including individual accounts, joint accounts, certain retirement accounts (such as IRAs), trust accounts, and more. The insurance coverage applies to each depositor at an insured bank.
- Exclusions: It's important to note that certain types of deposits or investments are not covered by FDIC insurance. These may include stocks, bonds, mutual funds, annuities, and safe deposit box contents. FDIC insurance is specifically for bank deposits.
How is the FDIC funded?
The Federal Deposit Insurance Corporation (FDIC) is primarily funded through three main sources:
- Insurance Premiums: The primary source of funding for the FDIC is the collection of insurance premiums paid by insured banks. Member banks, which are the banks covered by FDIC insurance, are required to pay regular premiums based on the amount of their deposits and the level of risk they pose to the FDIC's insurance fund. These premiums are calculated based on a risk-based assessment framework.
- Assessments and Fees: In addition to insurance premiums, the FDIC can impose assessments and fees on insured banks to supplement its funding. These assessments can be levied during periods of financial stress or when there is a need to strengthen the insurance fund. The FDIC has the authority to adjust assessment rates and fees as needed.
- Interest Income and Investments: The FDIC also earns income from its investments and the interest it receives on the securities it holds. The insurance fund's funds are prudently invested in various instruments, including Treasury securities and other fixed-income securities, to generate income over time.
While most savers and investors are familiar with the concept of FDIC insurance protection of up to $250,000 for bank checking and savings accounts, not as many are familiar with the protections offered by SIPC (The Securities Investor Protection Corporation) insurance for brokerage accounts.
While brokerage firm failures are extremely rare, the Securities Investor Protection Corporation protects customers if their brokerage firm fails. If it happens, SIPC protects the securities and cash in your brokerage account up to $500,000. The $500,000 protection includes up to $250,000 protection for cash in your account to buy securities.
How does SIPC protection work?
SIPC protection is only available if your brokerage firm fails and SIPC steps in. You must file a claim to receive protection from SIPC. SIPC's ability to satisfy your claim is limited by law. SIPC administers a federal law, but it is not a government agency.
Do conditions apply?
SIPC protects your investments if:
- Your brokerage firm is a SIPC member.
- You have securities at your brokerage firm.
- You have cash at your brokerage firm to buy securities.
SIPC does NOT protect:
- Your investments if the firm is not a SIPC member.
- Against market loss.
- Against promises of investment performance.
- Against losses due to security breach, unless the brokerage becomes insolvent.
- Commodities or futures contracts, foreign exchange contracts, fixed annuities contracts, or investment contracts such as limited partnerships
As mentioned, SIPC coverage insures people for up to $500,000 in cash and securities per account. SIPC protections also include up to $250,000 in cash coverage. The total amount of coverage is $500,000; thus, if you have $500,000 in securities and $250,000 in cash, that entire amount may not be covered.
However, there are circumstances in which investors are covered for more than $500,000. This happens primarily when investors have multiple accounts of different types. For instance, if you have a traditional individual retirement account (IRA) and a Roth IRA at the same brokerage, the SIPC will insure them separately. Thus, you will be insured up to $1 million between the two accounts.
SIPC protects the customers of over 3,500 securities brokerage firms. Most U.S. brokerage firms are required to be SIPC members. McKinley Carter uses Fidelity, Charles Schwab, and TD Ameritrade as custodians, and all are covered by SIPC protection.
Is it safe to keep more than $500,000 in a brokerage account?
There are measures in place to help investors recoup their investments before the SIPC steps in. The SIPC will not get involved until the liquidation process starts. In most cases, customers can recover their assets without having to file a claim with the SIPC.
Usually, the brokerage firm will liquidate on its own without needing SIPC intervention. In addition, brokerage firms are required to keep customer funds in accounts separate from their own. They must also have a certain amount of liquidity on hand, thus allowing them to cover funds in these cases.
Additionally, in the case of the custodians used by McKinley Carter, they maintain insurance coverage well beyond the $500,000 provided by SIPC. The excess coverage would only be used when SIPC coverage is exhausted. So, even if you have more than $500,000 in one brokerage account, the odds that you would lose money (even if the broker is forced into liquidation) are extremely low.
SIPC has been protecting investors since 1970.
The Securities Investor Protection Corporation had its origins in the difficult years of 1968-70, when the paperwork crunch, brought on by unexpectedly high trading volume, was followed by a very severe decline in stock prices. Hundreds of broker-dealers were merged, acquired, or simply went out of business. Some were unable to meet their obligations to customers and went bankrupt. Public confidence in the U.S. securities markets was in jeopardy.
Congress acted swiftly, passing the Securities Investor Protection Act of 1970 (SIPA) and the SIPC was created. SIPA's purpose was to protect customers against certain types of loss resulting from broker-dealer failure and, thereby, to promote investor confidence in the nation’s securities markets. Each customer was protected up to $50,000, including a ceiling of $20,000 for cash claims.
In 1980, the level of protection was raised to the current amount of $500,000, including up to $100,000 for cash. The level of protection for cash assets was raised to $250,000 in 2010.
SIPC protected investors during the financial crisis of 2008.
Two well-known incidents in history where SIPC stepped in to protect customers were in September and December of 2008, respectively, where Lehman Brothers Inc. failed as part of the largest bankruptcy in U.S. history and Bernard L. Madoff confessed to the largest Ponzi scheme in history.
How is the SIPC funded?
There are two main sources of funding for SIPC. One is the assessments that member broker-dealers pay to SIPC. The other is interest earned on SIPC’s investment of its funds. The financial support provided by SIPC members makes possible the protection that customers receive when a member firm fails financially. With some narrow exceptions, every U.S. registered securities broker or dealer is a member of SIPC.
For more information regarding SIPC protection, please visit their website: https://www.sipc.org/
In summary, FDIC and SIPC insurance provide important protections to individuals and businesses in the banking and securities industries, respectively. FDIC insurance offers coverage for deposits at FDIC member banks, protecting the principal amount of the deposit in case of bank failures. SIPC insurance provides limited coverage for securities and cash held by customers of failed brokerage firms, helping to facilitate the recovery of assets in case of insolvency or fraud.