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Bank failures are kind of like hurricanes. When the weather’s nice and people are out barbecuing, they’re the last thing on your mind. But when one appears out of nowhere and starts bearing down on your neighbourhood, the ones who prepared for it are the ones that turn out OK while everyone else will get their homes destroyed.
Well, with the recent failure of Silicon Valley Bank, followed by First Republic and Credit Suisse teetering on the edge of disaster, hurricane season is now upon us.
How prepared will you be if your bank suddenly fails?
Fortunately, being prepared for a bank failure isn’t something that takes months. You can make sure you’re protected with a few simple moves that anyone can do right now.
Ready to find out? I know I am, so let’s do this thing!
You’ve probably heard the Federal Deposit Insurance Corporation’s (FDIC) name being referenced in one of the many news stories out there covering the SVB collapse. The FDIC is a government agency created in the aftermath of the Great Depression of 1929, and their main job is to protect the deposits of everyday bank customers like you and I.
How it works is that every bank that’s an FDIC member pays into a shared fund that FDIC manages. In the event of a bank failure, FDIC uses that shared fund to reimburse everyone that had an account in that bank, up to a certain threshold. This way, when a bank fails, its customers are made whole again by using the money from all the other banks who survived.
So the first thing you should do is check to make sure your bank is FDIC-insured. It’s not sufficient to check the bank’s website and see if there’s an FDIC logo, since the bank could be lying. The best way to check is to go to FDIC’s website and search for your bank and make sure it’s listed. FDIC has a tool for this called BankFind. Go do it now!
Now remember, this is a government website, so it’s…not the most intuitive thing in the world. I did a quick search for “Bank of America” and it returned results for “First National Bank of America”, “BMW Bank of North America” (whatever that is), and finally, “Bank of America California, National Association”, which is the one we want. Check the primary website listed by the certificate to make sure it’s the one you’re thinking.
If your bank is on there, you’re automatically protected. Checking accounts, savings accounts, and money market/certificate of deposit accounts are all covered up to $250,000, but note that your balance in all these accounts is added together when determining your overall protection. So if you had a checking account and a savings account, your coverage is $250,000 for the combined total, not per account.
Also note that joint accounts are a separate category and qualify for their own coverage of $250,000 per account holder. So if you and your spouse had both a joint checking account and your own individual accounts, you would qualify for protection of $250,000 each for your individual accounts, plus another $250,000 for your half of the joint account, for a total of $1,000,000 of coverage between the two of you.
As long as your balance is below your coverage limit, you are safe from any bank failure. And if it’s above that, you might be holding on to too much cash and should probably consider investing it somewhere.
Now, all that’s find and dandy for your checking account, but what about your investments? Not to worry, there’s a parallel system for brokerage firms too!
It’s called the SIPC, or Securities Investor Protection Corporation, and functions in more or less the same way. Brokerage firms that are members (which can be checked here) pay into a shared pot of money that SIPC controls, and if one of the firms goes belly-up, SIPC reimburses their clients for any money that was lost, up to a limit.
You’re going to want to pay attention to that limit much more closely for SIPC. While many of us don’t sit on a quarter-million bucks of cash in our savings account, it’s much more common to have more assets than the SIPC limit, which is $500,000.
So when it comes to your brokerage accounts, it’s really important how your money is divided between your accounts. That’s because this $500,000 limit is per category of accounts. So if you have multiple accounts in the same category, the $500,000 limit applies to the combined balance of those accounts. But if you have accounts in different categories, then you get a new $500,000 limit for those ones.
The main categories that SIPC considers as having a separate $500,000 limit are:
- individual account
- joint account
- an individual retirement account
- a Roth individual retirement account
Here’s how the SIPC explains this in practical terms.
- Mary has an account in her name at her brokerage firm. Mary is protected by SIPC up to $500,000.
- Joe has two brokerage accounts, each in his own name. For purposes of SIPC protection, Joe’s accounts are combined, and Joe is protected by SIPC only up to a total of $500,000.
- Joe and Mary are married and they have a joint brokerage account which is separate from the individual accounts that they each have at the firm. An additional maximum of $500,000 of SIPC protection is available for the joint account.
- Joe has a Roth account and an IRA account, at the same brokerage. Joe is protected up to $500,000 for the Roth account and up to $500,000 for his IRA account.
A couple things to be really careful about. First of all, opening up multiple individual accounts doesn’t increase your coverage. Your $500,000 is for all your individual accounts combined.
And second of all, a joint account has a total of $500,000 coverage for both you and your spouse combined! This is actually different than how FDIC insurance is calculated, where each owner of a joint account gets their own separate coverage limit.
The SIPC clarified this in their Investor FAQ page
I have a joint account with one other person. Are we each protected up to $500,000 by SIPC?
No. For purposes of SIPC protection, a joint account is treated as a single customer irrespective of the number of co-owners.
This “joint account” rule is the easiest one to get screwed on, because if you hold all your taxable investments in a single joint account with your spouse thinking that “I get $500k, they get $500k, so together than account is covered for $1M,” you’re actually wrong on that one and could get screwed big time in the event of a brokerage failure.
If you find yourself in a situation where you have a joint investment account with your spouse, and your holdings in that account exceed $500k, each of you should open up an individual trading account under your name only and transfer the amount above $500k into each account equally. That way, the tax treatment will be exactly the same as before, but gain an additional $1M of insurance coverage with just a few minutes of work.
What About The Canadians?
The Canadian banking system is protected in a similar way to the American ones. Deposits are protected by the Canadian Deposit Insurance Corporation (CDIC). Checking and savings accounts are covered up to $100,000, which isn’t as generous as the American limit, but let’s get real here. Nobody should be sitting on more than $100k of uninvested cash anyway, so this is more than enough for most people.
The CDIC member directory can be found here, but if you’re like most Canadians and bank with one of the Big 6 (TD, CIBC, BMO, RBC, Scotiabank, National Bank), you’re fine.
Investment accounts are covered by the Canadian Investor Protection Fund (CIPF). You can check whether your brokerage is a member here. Don’t worry, Questrade is definitely on there.
You’ll be happy to learn that while our deposit insurance coverage isn’t as generous as the Americans, our investor coverage is much higher.
- $1 million for all general accounts combined (such as cash accounts, margin accounts and TFSAs), plus
- $1 million for all registered retirement accounts combined (such as RRSPs, RRIFs and LIFs), plus
- $1 million for all registered education savings plans (RESPs) combined where the client is the subscriber of the plan.
So a couple important things to note here. First, RRSP’s have their own separate $1M category, but TFSAs have to share with non-registered trading accounts. That different from the Americans, as their Traditional IRAs and Roth IRAs each have their own category.
And second, the $1M coverage in a joint account is per-person, not per-account, so having a joint account effectively doubles the $1M coverage to $2M. From the CIPF’s coverage limit explainer…
Accounts held Jointly
Unless otherwise evidenced in writing, proportionate interest in a joint account will be presumed to be equal for all parties with an interest in the account. Each party will have CIPF protection for their interest in the joint account up to the limit that applies to all of their general accounts combined. In most cases, this limit is $1 million.
That’s a big advantage Canadians have over the Americans, who have to share their $500,000 coverage with their spouse in a joint account.
So to give a concrete example, Kristy and I have a joint account and 1 TFSA each. I have an RRSP, while she has an RRSP, a Spousal RRSP, and a Locked-in Retirement Account (LIRA) from her last job. Here is how our coverage limits would look like:
|Account Type||Coverage Limit|
|Bryce + Kristy Joint||$2,000,000|
|Bryce TFSA||(combined with $2,000,000 above)|
|Kristy TFSA||(combined with $2,000,000 above)|
|Kristy Spousal RRSP||(combined with $1,000,000 above)|
|Kristy LIRA||(combined with $1,000,000 above)|
So among these 7 accounts, we have a total insurance coverage of $4,000,000, and since none of these accounts is close to their category limits, I am 100% protected if Questrade goes belly up.
What If My Accounts Exceed Their Coverage Limits?
I encourage all of you and do this exercise. It only takes a few minutes, and what with banks looking a little wobbly right now, it would give you tremendous peace of mind that even if your bank happens to fall over, that you won’t lose any money.
And again: The one that I’d be most careful about is the American joint account limit. That one’s the easiest to misunderstand and the easiest one to get caught outside your coverage limit.
In some cases, if you find yourself in a situation where some of your money isn’t protected, you can reshuffle some money around to regain protection (like moving assets from joint to individual accounts if you’re American). And in other situations, opening up more accounts doesn’t help.
But always remember, all limits I wrote about here are per institution. You always have the option of spreading out your money across multiple banks/brokerages, which would reset your coverage limits for each new company. That would be more annoying to manage, sure, but that’s a heck of a lot better than potentially losing any of your hard-won life savings to some random bank failure you have no control over.
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