What Is FDIC Insurance?
Insurance is something that almost all of us are familiar with to some degree. We get insurance for our car in case we're in an accident and need our bumper replaced. We get insurance for our houses in case there's a flood, fire, tornado, or we need our shingles redone. We also obtain insurance for our lives, so our loved ones aren't left with nothing after we pass. It seems like there's insurance for just about anything from your iPhone to your pets to your income.
Being a CERTIFIED FINANCIAL PLANNER™ and coach, I work with people to get all sorts of insurance they may need to protect themselves and their financial progress. Sometimes I learn that people are shocked to find out that they may even have insurance they're unaware of! That's because some types of insurance don't need to be applied for and approved; they just come along with whatever you have. One such type of insurance is FDIC insurance. Unfamiliar with it? Don't worry, that's why we're here!
What Is FDIC Insurance?
To start, let's lay a few things out. First, the FDIC itself is an entity. It's officially called the Federal Deposit Insurance Corporation. FDIC insurance is something different, which we'll get to in just a second.
The FDIC, or Federal Deposit Insurance Corporation, is a government-run organization. Like just about anything the government is attached to these days, there is some controversy surrounding the FDIC. While some believe it goes too far, others believe it doesn't go far enough. However, there are some misunderstandings about the organization and exactly what it does. While the FDIC is government-run, it isn't funded through tax dollars, at least not for the most part. Mainly, it's sustained through banks "paying in." The FDIC's primary purpose is to ensure the bank's customers (up to a specific amount).
While the FDIC is an organization, FDIC insurance is more like its product. It is indeed the main thing that the FDIC contributes and is the vehicle that shields the bank's customers should something happen to their financial institution. While FDIC insurance covers a bank's customers up to a certain amount (depending on their specific situation), what is genuinely offered is confidence. Most of us have never worried about a bank closing down and losing all of our money. However, this hasn't always been the case, and the backing of FDIC insurance is one reason that thought process has strayed from our minds.
A Short History of The Federal Deposit Insurance Corporation
The Federal Deposit Insurance Corporation was founded in 1933. It was passed, along with many other measures, as a response to the Great Depression. The Great Depression was a time of extreme economic and financial turmoil during which many people lost a significant amount of faith in American banks. Before the Great Depression, many people held their life savings in banks as a way to keep it shielded from destruction or theft. However, during the depression, many banks were forced to close down, which caused many individuals and families to lose their hard-earned savings.
To avoid catastrophes like this in the future, Congress and President Franklin D. Roosevelt created the FDIC as a temporary organization with the passage of the 1933 banking act. Then, in 1935, the FDIC was made permanent with the passing of The Banking Act of 1935. At the time, Americans who deposited funds into FDIC accounts were insured up to $2,400, which roughly equates to $50,500 in today's money.
The point of creating an organization to ensure banks was to back financial institutions with the power of the United States government and re-create a sense of trust in the banking system that had been lost during the economic collapse. The FDIC insurance was slow to be accepted, and those who lost money in the depression were understandably slow to adapt. However, the FDIC and FDIC insurance have fostered a sense of trust in the American banking system that's so widespread many in more current generations have never questioned depositing into banks.
What is an FDIC Insured Account?
An FDIC Insured account is simply an account that's insured through the FDIC. I know that definition is probably a little lackluster, but hey, it isn't overly complicated, right? Being an FDIC insured account means that your bank account is insured up to $250,000 in the case of bank closure or theft.
One isn't limited to the number of FDIC insured accounts they may have, but you are limited to the number of accounts at an institution. So, if you have two different accounts that are both FDIC insured, then each of those accounts is insured for $250,000. The coverage amount of FDIC insured accounts does vary based on the situation of the account. For instance, if a couple were to jointly own an account, they would be insured for $250,000 individually, making the total insurance coverage of that account $500,000. This is because the FDIC breakdown of coverage is $250,000 per individual per account.
All of this can be a little bit confusing. Wording and phrasing can make it difficult to comprehend though the policy is actually quite simple and straightforward. The main thing to remember here is this: eligible accounts are insured by the FDIC for up to $250,000 per individual. So if you're having trouble deciphering or remembering how much who is covered for - just revert back to that rule.
Are All Accounts Covered with FDIC Insurance?
No, not all accounts are covered through FDIC insurance. For an account to be protected, a bank must be an FDIC-insured bank. While the vast majority of banks are, there are still some who aren't. Chances are, if you go out and open up a savings account at the first bank you pass, it will be FDIC insured, but the fact remains that isn't a certainty. Most banks insured by the FDIC use it as a selling point, and it won't be challenging to decipher whether they are or aren't, but if you're unsure, you can always ask (just to be safe). Generally, banks that are FDIC Insured must post a notice prominently in each bank location.
For a bank to be insured by the FDIC, it must complete a lengthy application process. While much of the information in the application process would be boring to the average Joe, it includes things that ensure the bank is entering into the market with the intention of creating a trustworthy financial institution. The bank must create a business plan, detail how they intend to make money, and provide information about where and when their branch is opening. By giving all of this information to the FDIC, the bank essentially proves that they're not going to take advantage of people. This helps the FDIC vet their insured banks, which creates strength throughout their entire system.
So, if your bank is insured by the FDIC (which most are), the answer to the question, "Are all accounts covered with FDIC insurance?" Is still no. While most standard accounts are covered, like checking and savings accounts, accounts for investing, safety deposit boxes, and insurance accounts are not.
How FDIC Insurance Protects You.
While most of the time, we think of insurance plans through the lens of paying premiums and deductibles, that's not quite how it works with FDIC-insured accounts. Instead of you directly paying the FDIC, the FDIC-insured bank you're dealing with makes all the payments. They do this on quarterly, monthly, and annual timelines, which is a way of funding the FDIC. This funding goes into a pool of money, much like traditional insurance, which covers the bank's customers on the off chance that their bank collapses or loses their money.
If an FDIC-insured bank were to collapse, the FDIC has two primary responsibilities. Firstly, the FDIC steps in and repays your lost money (up the insured amount). The FDIC's website states that they do this by either providing the insured with a check or by setting up a new account at another FDIC-insured bank. Secondly, the FDIC must begin selling the failed bank's assets and settling debts. This is done to get back a portion of the money lost through the bank's closure.
What FDIC Insurance Covers.
Like I said before, not all accounts at all banks are FDIC insured. For an account to be insured, the bank must be an FDIC insured bank, and to take it one step farther, your type of account must be eligible for FDIC insurance. Checking accounts, savings accounts, Money Market Deposit Accounts (MMDAs), and Certificates of Deposit (CDs) are Among the most common account types covered through FDIC Deposit Insurance. The FDIC refers to these types of accounts as "Deposit Products." Deposit products are accounts at a bank where the user puts money aside for safekeeping, not growth.
Investment accounts, stocks, bonds, mutual funds, annuities, government securities, municipal securities, and US Treasury Securities are among the list of products offered by banks that are not FDIC insured. This is in part because the FDIC is not in the business of insuring more volatile speculation products.
Advantages Vs. Disadvantages of FDIC Coverage
Now that we have a pretty good idea of what the FDIC is and how they insure your account let's go over some pros and cons of both the FDIC and their insurance!
You Know You're Working with a Trustworthy Institution
One of the most considerable positives of working with a bank or financial institution supported and insured through the FDIC is that you have a good idea that you're working with a trustworthy entity. Because of the lengthy application process that we discussed earlier and the standards the FDIC holds banks that they work with, you can be fairly certain that your FDIC-insured bank won't cut and run with your newly deposited money in hand.
Your Money is Insured Up to $250,000
One of the most prominent pluses to having your money in an account that's FDIC insured is that it is "insured"! You're probably thinking, "well, duh." However, there are still banks that aren't supported with the FDIC out there, and should you use one and they were to close down, you may have a tough time getting your money back! As I talked about above, if a bank that's FDIC insured goes out of business and your money is in an eligible account, you're assured that you'll receive your cash.
Avoids Economic Panics
A very positive thing about FDIC-insured institutions on a more broad scale is that they relieve some of the overarching economic worries. Because they insure savings and checking accounts at (most) banks, you don't have to worry as much that an economic collapse will separate you from your life savings. This is great both in times of prosperity as well as times of economic hardship.
Insurance You Don't Have to Pay for
The best part, perhaps, is that it's FREE. Well… free to you. To be honest, we all pay for it some way or another, whether through bank fees, membership costs, or whatever else (there's no such thing as a free lunch). But the fact is that your money is insured, and you don't have to make monthly payments to have it that way!
Only Covered to a Certain Amount
Of course, there are some cons to FDIC-insured accounts. For instance, though your savings, checking, and other qualified accounts are covered simply by existing in an FDIC-insured bank, they're only covered up to $250,000 per individual per account. That means that if you have $500,000 in an account and your bank closes, you'll only receive half back from the FDIC. One way around this is to keep a maximum of $250,000 in an account with one FDIC-insured bank and to spread the rest of your money across other FDIC-insured institutions.
Certain Types of Accounts aren't Insurable.
Another major negative is that not all accounts are insurable through the FDIC. Even if you have some investing accounts at an FDIC-insured bank, they just aren't covered. This is likely because the FDIC doesn't want to insure something overly volatile, which would make it much more challenging to plan and predict how much money they need to have on-hand at one time. However, for those in the investing world, this can be a bit of an annoyance and issue nonetheless.
Let's Summarize FDIC Insurance!
Okay, so we covered quite a bit talking about the FDIC as well as FDIC Deposit Insurance. Let's go over some of the major highlights of what we've talked about! The FDIC is an institution, the Federal Deposit Insurance Corporation, to be specific. It was created by FDR in 1933 to deal with American's lack of trust in the banking world. The FDIC's main product is what's called FDIC Deposit Insurance. This insurance covers Deposit Products (like checking and savings accounts) at FDIC-insured banks for up to $250,000. While most banks these days are FDIC insured, not all are - so make sure you do your due diligence when creating an account with someone.
If you'd like to learn more about the FDIC or Deposit Insurance, please, feel free to call or email to schedule an appointment with me. Together, we can create a financial plan that keeps your risk profile in mind and align your investments with your financial needs and goals.
Until next time...this is Melissa Making Cents!
Melissa Anne Cox, CERTIFIED FINANCIAL PLANNER™, is also a College Planning and Student Loan Advisor and Financial Coach in Dallas, Texas.