Safety of Your Money - Deposit Insurance Coverage Limits

With the news of hackers and Greek bank closures, it’s understandable to have some concerns about our money. There are many things to consider when we talk about the safety of our money. I touched on several things in my overview of the safety of our money in banks. In my last article my focus was on the importance of deposit insurance. In this article, my focus will be on coverage limits of deposit insurance. I’ll first review the coverage limits of federal deposit insurance from the FDIC and NCUA. There are some little known ways to cover more than the standard limits. I’ll end the article with a review of private deposit insurance options that can provide coverage above the federal deposit limits.

Federal Deposit Insurance for a Standard Deposit Account

If you or your business have a large amount of money that you keep in one bank or credit union, it can be easy to go above the federally insured limits. The amount that is above the insurance limit is at risk of loss if the bank or credit union fails. That happened to quite a few people in 2008 when IndyMac Bank failed.

First, it’s important to know that the standard maximum deposit insurance amount is $250,000. This applies to federal deposit insurance from either the FDIC (for banks) or NCUA (for credit unions). If you have under this amount, you don’t have to worry about loss if the institution fails. If you have over this amount, you may be covered depending on the ownership categories of your accounts. The FDIC has a thorough explanation of ownership categories in this FDIC document titled Your Insured Deposits. In example 7 on page 20 of this document, the FDIC describes how it’s possible with multiple ownership categories for a husband and wife with three children to have $3.5 million at one bank that’s fully insured. The NCUA has the same rules, and it has a document with a similar title, Your Insured Funds".

One easy way to insure more than $250,000 at one bank or credit union is to set up informal revocable trust accounts. These are accounts that designate one or more beneficiaries using terms like "payable on death" (POD) or "in trust for" (ITF). As described in the above FDIC document, it’s easy for one person to insure up to $1.25 million at one bank by setting up revocable trust accounts with five beneficiaries. I explained in detail how this can be done in my article, Maximizing Your FDIC Coverage with Beneficiaries.

One important note about insuring deposits above $250,000 at one bank is that you have to be careful. If you or your bank makes any mistakes (such as in how the beneficiaries are specified), your money above $250,000 may not be covered.

Multiple beneficiaries can make it easy to insure over $250,000 at one bank or credit union. However, the extended coverage does not apply to all types of accounts. One example is retirement accounts like IRAs. Deposit insurance coverage does not increase by adding beneficiaries. Another example is a business account. The maximum insurance coverage is $250,000 per legal entity.

CDARS and ICS

If you have an IRA or business account, your maximum insurance coverage at your bank or credit union may be $250,000. To avoid uninsured deposits, you can open accounts at other banks or credit unions, but that adds complexity. CDARS and ICS were designed to make it easy to divide your money among multiple banks so that you can maintain deposit insurance for well over $250,000.

CDARS is short for Certificate of Deposit Account Registry Service, and it’s run by the company Promontory Interfinancial Network, LLC. CDARS breaks up large deposits and places them in CDs across a network of banks. This allows depositors to work with a single bank that participates in CDARS, and it avoids having funds above the FDIC deposit insurance limits in any one bank.

ICS is short for Insured Cash Sweep. It’s a service like CDARS except that it places funds in money market accounts or checking accounts instead of CDs. This gives depositors the same safety and convenience as CDARS, but also the liquidity of money market or checking accounts.

More details are available at cdars.com and at insuredcashsweep.com. The primary downside to CDARS and ICS is an interest rate that is generally lower than what you can find at regular CDs, money market accounts and checking accounts at internet banks.

Deposit Accounts at Brokerages

Dividing up funds across several banks to keep under the FDIC limits can also be done at brokerages. The most common way is by using brokered CDs. Under one brokerage account, a customer can buy multiple brokered CDs, each issued by different banks. It is the responsibility of the customer to ensure deposits at any one bank remain below the FDIC limits. However, this can be easier than opening accounts directly at multiple banks. This is especially the case of IRAs

I reviewed the pros and cons of brokered CDs in this review of brokered CD features.

For liquid accounts, some brokers offer deposit sweep programs in which the cash balance in certain accounts is swept to one or more banks where it is eligible for FDIC insurance. Not all brokerages offer this service, and those that do will typically limit the number of banks that hold the deposits. One example of this service is the Cash Management Account at Fidelity Investments. In this account, the uninvested cash balance is swept to up to five banks which allows for a maximum FDIC coverage of $1.25 million.

Another brokerage that has a sweeps program is TD Ameritrade. Its Cash Management Account has an account option called Insured Deposit Account in which funds can be deposited into two banks allowing you to obtain up to $500,000 in FDIC coverage.

One downside with these cash sweeps program is that they typically have interest rates that are much lower than money market or checking accounts at internet banks.

Private Deposit Insurance Options

To fully protect your deposits with federal deposit insurance, you have basically two approaches: maximize FDIC and NCUA coverage at one institution or find a way to divide up deposits across multiple institutions.

Another option to protect large funds is to utilize private deposit insurance. The downside with private deposit insurance is that, unlike the FDIC and NCUA, it’s not backed by the full faith and credit of the United States government.

Another downside with private deposit insurance is the lack of options. There are really just two options: coverage of credit union accounts from American Share Insurance (ASI) and coverage of accounts at Massachusetts-based institutions.

ASI and ESI

ASI’s primary share insurance is available in nine states (AL, CA, ID, IL, IN, MD, NV, OH, TX). State-chartered credit unions in these states have the option to use ASI instead of the NCUA as their primary share insurer. The large majority of credit unions in these states maintain the NCUA as their primary insurer. In terms of coverage limits, it is easier to insure larger deposits using ASI than by using NCUA. According to the ASI website:

Instead of insuring individual members, as is the case with federal insurance, ASI insures individual members' accounts to $250,000. With no limit to the number of accounts insured, members can maintain all their insured savings at your credit union.

Consequently, a member with a savings account, a checking account and a CD would be covered for a total of $750,000 ($250,000 for each of the three accounts).

In addition to primary share insurance, ASI offers excess share insurance (ESI) which provides additional coverage on members’ deposits beyond that of their credit union’s primary insurer (either ASI or the NCUA). For the case of extending NCUA coverage, this is offered in more than the nine states. NCUA coverage is extended by $250,000 for each account type. Details of this are described at this ASI webpage.

One downside with relying on the extended coverage of ASI and ESI is that credit unions can drop ASI and ESI coverages. For example, Patelco Credit Union in 2008 replaced ASI with NCUA as their primary insurer. ESI coverage is limited to small credit unions. In 2008, Austin Telco Federal Credit Union reported to members that it was phasing out ESI due to growth. At that time, the maximum aggregate deposit insurance coverage offered by ESI was $55 million per credit union.

Massachusetts-Based Private Insurance

The second option of using private deposit insurance to extend coverage is to bank with certain Massachusetts-based institutions. Many banks and credit unions in MA have private deposit insurance which insures deposits in excess of the NCUA/FDIC limits. All of these banks and credit unions have federal deposit insurance. The private insurance just provides additional coverage for amounts over the federal limits. Unlike ASI and ESI coverage, this coverage is without limit. Below are the three insurance funds and the types of institutions they cover:

• Massachusetts Credit Union Share Insurance Corporation (MSIC) for MA-chartered credit unions
• Deposits Insurance Fund (DIF) for MA-chartered savings banks
• Share Insurance Fund (SIF) for co-operative banks in MA

Some of the MA-based institutions with these private deposit insurance funds have set up internet divisions that offer their accounts to people outside of MA. Two examples are Salem Five Direct and Bank5 Connect. Deposits at these banks are covered by both FDIC and DIF. As this Bank5 Connect webpage states, DIF will cover deposits from customers in any state:

[E]ven though the DIF is a Massachusetts-based company, there's no residency requirement. In other words, you don’t have to be a resident of Massachusetts to take advantage of DIF insurance. Whether you're a resident of Rhode Island, New Hampshire or any other state, you're eligible for DIF coverage.

The DIF also covers online banks that are based in Massachusetts. If the online bank is a division of a Massachusetts chartered savings bank, the DIF would insure those deposits just as if it was in the regular bank itself.

Safety of Private Deposit Insurance

As mentioned at the start of this section, the downside with private deposit insurance is that, unlike the FDIC and NCUA, it’s not backed by the full faith and credit of the United States government. It requires trust in the the private company that’s providing the deposit insurance. The safety of these private deposit insurance funds has long been debated. They do have long histories. This Bank5 Connect webpage describes how DIF held up during the bank failures of the late 80’s and early 90’s:

Between 1989 and 1994, 19 DIF member banks failed. It was the worst period in the history of the Massachusetts savings bank industry, far worse than even the Great Depression. But importantly, for those depositors and those 19 banks, they got access to their money the very next business day, both their FDIC insured deposit and their DIF insured deposit.

This ASI webpage summarizes ASI’s history:

American Share Insurance (ASI) was founded in 1974 by credit union activists to protect the deposits of credit union members. ASI is owned by our insured credit unions and our only business is to provide deposit insurance to credit unions. Currently, the corporation insures over 1.2 million credit union members, and no member has ever lost money in an ASI-insured account!

The one question that these private deposit insurance funds can’t answer is how well they will hold up in a massive financial crisis. As we learned in the 2008 and 2009, large and well-respected companies can fall quickly. When there's a financial crisis, it's nice to know that your money is protected by the full faith and credit of the U.S. Government.

Other Safety Issues

It’s important to understand that deposit insurance funds only take effect when the bank or credit union fails. Your money can still be at risk due to fraud and theft. In future "Safety of Your Money" articles, I’ll look into the risk of losing money at your bank or credit union due to employee theft and electronic fraud.