Brokerage Firm Failures

(Page 2 of 2 of What Happens to Your Money If Your Financial Institution Fails or Is Acquired? )

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Brokerages are required to hold client assets in separate accounts so that they are not in jeopardy if the company fails. This makes it unlikely that you would lose money even if your brokerage did go bankrupt. In the unlikely event that your assets did disappear, however, the Securities Investor Protection Corporation (SIPC) would protect you.

The SIPC is a private, nonprofit entity that protects customers of those broker-dealers who are SIPC members. To be sure your dealer, brokerage firm, or bank brokerage subsidiary is an SIPC member, look for "Member SIPC" on the business's website, in its ads, or on its signs and literature. Or, search for a broker or company on the SIPC website, at www.sipc.org (click "Who We Are" and then "Member Database"). If you invest through advisers, make sure they're working with SIPC member organizations.

What Is Covered by the SIPC?

The SIPC will replace any missing stocks, bonds, and other securities up to $500,000 per account, including up to $100,000 in cash. Losses exceeding these limits could eventually be recovered if there are adequate proceeds after the firm's liquidation. If you purchase and hold investments exceeding the standard limits, consider working with a broker that carries excess SIPC coverage.

It's important to understand that SIPC protection applies only to stocks, bonds, and other securities missing from a customer's account. This could happen if the broker or company committed fraud, or if it used, rather than separated, customer assets. The SIPC does not protect against the purchase of worthless stocks and securities or against a loss in market value. Also, it does not cover precious metals, foreign currency, or commodity futures contracts.

What Happens If Your Brokerage Fails?

If your brokerage firm is put into liquidation, the court-appointed trustee will send you a claim form and instructions. (For this and many other reasons, it's important to maintain accurate investment records on your own, rather than leaving that task entirely to your broker.) Typically, customers receive their assets in one to three months. However, there could be delays if the broker's records are not accurate or if fraud was committed.

If your account is transferred to another brokerage, you will be notified and given the option of keeping your account there or moving it.

Insurance Companies

In some cases, the regulator in an insurer's home state will manage a failing insurance company until its problems are resolved. During this time, business would go on as usual. This is called rehabilitation.

If the state regulator cannot correct the problems, the insurance company will be liquidated and its policies could be transferred to other, more stable companies. In the process, the guaranty agency or association in each policyholder's state would ensure that any open, unsettled claims were paid.

How Much of Your Insurance Coverage Is Protected?

If an insurance carrier fails, the amount of protection provided for policyholders varies by state and by insurance type. For example, California's Department of Insurance limits its guarantee to $500,000 on property/casualty insurance; $250,000 in life insurance death benefits; $100,000 in life insurance cash surrender value; and $200,000 for health policies. Claims that exceed the state's limits may eventually be satisfied if there are adequate proceeds after the company's liquidation.

Property/casualty and term life. If you have a property/casualty policy or a term life policy and do not have any outstanding claims at the time your insurance company closes, you may be instructed to buy a new insurance policy with another company.

Whole life, universal life, and annuities. Whole or universal life policies and annuities may be transferred to another insurance company. Companies taking over the policies cannot change the terms of the policy, but they can raise premiums or fees. If you don't like the changes, you can cancel your policy and look for a new insurer.

If you buy a new policy, you may have to pay surrender charges, sales commissions, and higher premiums.

Check the Ratings of Your Insurance Company

To check the financial soundness of your current insurance company or one you're considering doing business with, use a ratings service. Options include:

Further Resource

For easy-to-read, practical advice on planning your family's finances, read The Busy Family's Guide to Money, by Sandra Block, Kathy Chu and John Waggoner (Nolo).

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