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Your Financial Accounts: Knowing the Insured from the Uninsured

Dinah Wisenberg Brin, |Special to CNBC.com
Friday, 28 Sep 2012 | 3:53 PM ET

Walk into your bank’s neighborhood branch or visit their website and you’re offered a choice of the usual checking and savings accounts. Options also include slightly more sophisticated products — mutual funds, annuities, insurance policies and brokerage accounts.

Bank Vault
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Bank Vault

Banks used to be far more limited in their offerings. But with the Financial Services Modernization Act of 1999, longstanding barriers that had prevented banks from affiliating with securities and insurance firms were removed. The change allowed banks to operate as holding companies that could engage in other financial activities through non-banking subsidiaries.

“It broke down the walls that existed between those institutions,” says Gerri Walsh, vice president for investor education at the Financial Industry Regulatory Authority, the largest independent regulator of securities firms. Many institutions now offer federally insured savings accounts and certificates of deposit under the same roof as uninsured products such as mutual funds.

So how do you sort out which of your accounts are insured in case of bank failure?

“Banks are required by law to advise consumers whether a product is FDIC-insured or not, and it would be printed on any materials like statements or marketing materials promoting that product,” says Carol Kaplan, spokeswoman for the American Bankers Association.

The Federal Deposit Insurance Corp., or FDIC, is the government agency that protects consumers’ deposits if the bank fails. (More:Most Widely Held Stocks You May Not Know You Own)

If you examine the fine print, you’ll usually see wording such as: "Investment and Insurance Products: Are Not FDIC Insured, Are Not Bank Guaranteed, May Lose Value, Are Not Deposits, Are Not Insured by Any Federal Government Agency, Are Not a Condition to Any Banking Service or Activity."

FDIC insurance covers a depositor’s money — principle and interest — up to the standard $250,000 limit per insured bank. If the customer has another $250,000 at a different FDIC-insured institution, that separate account also is insured. Plus, it's possible to have more than $250,000 in deposits covered at one bank if certain account requirements are met.

“FDIC insurance is backed by the full faith and credit of the United States government. Since the FDIC began operations in 1934, no depositor has ever lost a penny of FDIC-insured deposits,” the agency’s website notes.

Consumer Confusion

Another common source of confusion for consumers is the difference between money market deposit accounts, which are FDIC-insured, and money market funds, which are not.

“Even the simple concept of having a money market can cause confusion,” says Walsh. While a bank money market deposit account provides a similar rate of return as a money market mutual fund, she says, the bank invests its own assets, not the customer’s.

With the money market mutual funds, historically considered among the safest investments, investors directly buy shares of the funds, which invest in high-quality short-term instruments, Walsh says. (More:How Qualified Is Your Financial Adviser?)

What's covered and what's not?

Here's a further breakdown of what's covered and what's not.

What’s Covered

FDIC insurance covers deposits at insured banks, including funds in the following:

• checking accounts

• savings accounts

• money market deposit accounts

• certificates of deposit.

What’s Not Covered

Even if they’re offered by the parent company of an FDIC-insured bank, the following are not covered by FDIC insurance:

• stocks

• bonds

• mutual funds

• annuities

• life insurance policies

• belongings kept in a safe deposit box. (Bank customers may be able to protect the contents of a safe deposit box through their private homeowner’s or renter’s insurance, and some banks may offer limited compensation for damage, the FDIC says.)

Keep in mind investors aren’t covered by any federal agency if their stocks, bonds or mutual funds lose value, since losing money is an inherent risk in investing. The government doesn’t provide insurance for investment fraud, either.

The Securities Investor Protection Corp.can be another consumer resource.The SIPCmay help investors replace up to $500,000 in certain missing assets registered in customers’ names, including a maximum of $250,000 in cash if a member brokerage fails. It also helps investors whose assets have been stolen by their broker. The SIPC estimates it has helped to make whole at least 99 percent of eligible investors in the cases it has handled.

"Many people mistakenly believe a fixed annuity is guaranteed. Certainly the product is ‘insured’ since it's backed by an insurance company, but that insurance is only as good as the financial soundness of the company." -President, Kahler Financial Group, Rick Kahler

Treasurys

While there is no insurance on U.S. Treasury securities such as T-bills, notes or bonds, they are backed — like FDIC deposits — by the full faith and credit of the U.S. government.

Similar to FDIC-insured and bank accounts, deposits in federally insured credit unions are covered up to $250,000 by the National Credit Union Share Insurance Fund, which the National Credit Union Administration administers and the U.S. government backs. The NCUSIF is funded from a portion of member deposits, and members have never lost money in insured accounts, the NCUA says.

While government agencies provide information on different types of accounts, it’s easy for consumers to be flummoxed or misled. (More:10 Things to Know About Your Financial Adviser)

Annuities

Certified financial planner Rick Kahler, president of Kahler Financial Group in Rapid City, S.D., says that annuities, among the more popular and higher-commissioned financial products sold, generate much confusion. He cited industry statistics showing that annuity sales reached $231 billion last year.

“Many people mistakenly believe a fixed annuity is guaranteed. Certainly the product is ‘insured’ since it's backed by an insurance company, but that insurance is only as good as the financial soundness of the company,” Kahler says.

He said many variable annuities that carry a ‘guaranteed’ return can be an even worse investment. Annual costs on these products can run as high as 7 percent and still leave the purchaser believing the account balance is guaranteed to grow at a guaranteed rate of, say, 5 percent, Kahler says.

“When we dissect the annuity,” Kahler said, “they are usually shocked and angered to discover the guarantee refers to an annual increase in a death benefit. They find out they have purchased a very expensive life insurance policy rather than a guaranteed investment return.”

In other cases, scammers have persuaded unwitting investors — often the elderly — to purchase promissory notes with promises of high returns and assurances that the product is guaranteed or insured. The Securities and Exchange Commission warns investors against such scams and notes that legitimate corporate promissory notes usually aren’t offered to mom-and-pop investors.

After the financial crisis of 2007-2009, many consumers hoped there might be reforms in the financial industry to prevent abuse. In 2009, former Harvard Law Professor Elizabeth Warren began pushing Congress to adopt what she was then calling the Financial Product Safety Commission. It launched in 2011; in July 2012 the Consumer Financial Protection Bureau announced its first major settlement, a $210 million claim against Capital One.

GOP Presidential candidate Mitt Romney has called it "the most powerful and unaccountable bureaucracy in the history of our nation," referring to the unprecedented autonomy the bureau will have from meddling by Congress. He is proposing the creation of an alternate consumer financial regulation system.

No matter the outcome of this debate, consumers are wise to do their homework.

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