Getting to Know the FDIC

You may have heard that the banking industry isn't looking so hot right now. If your bank goes under, just how much do you stand to lose personally, though? You probably know that the Federal Deposit Insurance Corporation protects your money, but how much and through what avenues? Let's take a look at the FDIC:

Don't panic. While we may sneer at the major missteps our contemporary bankers have been making, things were much, much worse in the 19th century. The whole notion of banking as we know it is based upon what's known as a fractional reserve system. This means that when you deposit your cash at a bank, the bank doesn't simply stick it in a safe until you come back to ask for it. Instead, they take some of your dough and buy securities and make loans. The bank holds only a fraction of its deposits in reserve, and the economy grows because banks can effectively use the unreserved fraction to "create" new money. It's a supremely effective system. That is, unless everyone tries to get their cash out at once, in which case the bank wouldn't have enough money to pay all of its depositors.

These scenarios popped up from time to time throughout the 19th century. Depositors would start to worry that their bank might become insolvent, so they'd go pull out their money. As more and more people did this, the bank actually got closer and closer to insolvency, so there was an ever-stronger incentive for all depositors to get their cash back, which would effectively crash the bank.

Problems like these persisted into the 20th century, and like a lot of financial woes, peaked in 1933 when over 4,000 banks collapsed. With such systemic bank failure, people didn't want to put their money in banks, and the government needed to intervene somehow to restore faith. Congress did so by passing the Glass-Steagall Act of 1933, which created the FDIC to insure individual deposits up to $10,000. The FDIC would fund such guarantees by collecting premiums from banks. Although bankers weren't too hot on the idea of bailing each other out of hot water, the FDIC soon counted most of the country's banks among its members.

So what's the limit now? The FDIC's ceiling for insuring accounts at member institutions has gradually grown from the original $10,000. As of 1980, each account was taken care of up to $100,000, and following our latest rocky economic times the limit's been temporarily bumped up to $250,000 per account.

What exactly is insured? As of right now, you're covered for up to $250,000 on your deposit accounts at member banks. This means that your checking account, savings account, money market deposit accounts, and certificates of deposit are all safe up to $250,000 total. You should know that it's cumulative, though, not per account; if you've got $200,000 in a checking account and $100,000 in a savings account, only $250,000 of your cash is totally insured. If you've got accounts at separate banks, each one is insured for up to $250,000; if you've got $250,000 in a checking account at Chase and $250,000 in a checking account at Citi, both are completely covered. (You might want to spend some of that dough to hire someone who can help you manage your money a little better, though; that's a lot of cash to have in checking accounts.)

On top of that, if you have deposits in various categories of accounts, they can be insured separately, so things like your IRAs are also taken care of up to $250,000.

So what isn't insured? Everything else. Your stocks, bonds, mutual funds, annuities, Treasury securities, and life insurance policies aren't covered, even if you bought them from an FDIC-insured bank.

Also, the stuff in your safe deposit box isn't covered since it's not a "deposit" in the standard sense of the word. Usually when a bank goes under another swoops in to take it over, though, and then the acquiring bank will hang onto your stuff for you. In the event that another bank doesn't take acquired the failed bank, the FDIC will send you instructions for how to clean out your box. The federal government really has little interest in absconding with the passport you left there for safekeeping.

Can I outsmart the FDIC's limits? At a single bank? No. You can't circumvent the caps by including your middle initial in your banking records or changing the "and" to an "or" in the joint account you share with your spouse. If you need coverage above and beyond the current $250,000 cap in any category of account, you'll have to open up an account at a separate bank.

What happens to whatever deposits I had over the cap? Don't worry; you probably won't lose all of it. The FDIC continues to insure beyond the caps; it's just not 100% dollar-for-dollar coverage. For instance, when IndyMac Bank failed earlier this summer, roughly 5% of its $19 billion in deposits was over the limit. The FDIC paid depositors for 50% of their uninsured funds.

However, the FDIC doesn't work just like a regular insurance company; it actively tries to get another bank to take over failed institutions. In these cases, the purchasing institution takes over the failed banks' liabilities (like your deposits) and also gets some of the bank's assets (like outstanding loans). In this case, the depositors can end up getting more of their uninsured cash back. A story that ran in the San Francisco Chronicle last weekend said that in recent years depositors in failed banks have gotten around 72% of their uninsured funds back. Sure, losing that 28% hurts, but as anyone who had money in a failed pre-FDIC bank could have told you, it's a lot better than taking a 100% hit.