Safe for the 1 percent: FDIC often insures much more than $250,000

July 24, 2012

That the U.S. Federal Deposit Insurance Corporation (FDIC) insures deposits in people’s bank accounts up to $250,000 is fairly common knowledge. What is less known is that this $250,000 cap is, in many cases, a fiction, because companies and savvy, wealthy depositors can circumvent it, or avoid it altogether.

Two examples of this “the-sky-is-the-limit” insurance are so-called TAG accounts and CDAR accounts. TAG (Transaction Account Guarantee) accounts held about $1.5 trillion as of March 31, according to the FDIC’s latest quarterly banking profile. The accounts pay no interest, so their popularity is derived from their uncapped FDIC insurance which reassures companies who need to keep large amounts of cash at hand to finance inventories and payrolls that their deposits are safe even if something goes wrong at the bank.

The FDIC is funded by the banks it insures. When it closes a bank, it uses money it has already set aside to protect depositors and absorb any losses associated with the failure. TAG accounts were forged in the fire of the 2008 financial crisis by the FDIC, the U.S. Treasury and Federal Reserve Board and unveiled in a joint press conference.

In 2010, The Dodd-Frank Act required all banks to join the program. Since then the FDIC extended the guarantee until Dec. 31, 2012, citing “lingering effects” of the financial crisis and the risk that letting the TAG program expire when the economy was weak could cause some community banks already under stress to lose deposits and risk failure.

One group opposed to the extension is the Investment Company Institute, which represents investment funds, including the money market funds that could see some of the money corporations keep in the TAG accounts for their short-term cash management needs migrate back to money markets. Other opposition comes from those who cite the “moral hazard” argument that might apply to any form of insurance.

Groups who favor an extension of the TAG program include the American Bankers Association (ABA) – which recently decided to support a two-year extension – and the Independent Community Bankers of America (ICBA), which favors a five-year extension.

Two other arguments against an extension were made early this year by Edward Yingling, a partner in the Washington office of Covington& Burling LLP and a former president and CEO of the American Bankers Association.

Writing in the American Banker last February, Yingling cited two “real world” considerations.

First, the legislation has absolutely no chance of being enacted. Second, these deposits will not last anyway; interest rates at some point in the near future will go up, and the requirement that these accounts be non-interesting bearing means that the money will run, hard and fast.

Indeed, it may well be that, with big trading losses at JP Morgan, a bank that had led the charge against more regulation, along with a widening LIBOR rate rigging scandal, the legislative agenda of the banking industry might travel less far than usual. (As for interest rates going up in the near future, well, never mind.)

Outwardly, at least, the FDIC remains neutral on the issue. Says FDIC spokesman David Barr:

It’s a decision for Congress to make.

But TAG accounts are not the only way depositors can circumvent the FDIC’s $250,000 insurance cap. Some account holders could use CDARS, a network that lets a bank take a large deposit and put the funds into certificates of deposit (CDs) issued by other members of the CDARS network. Since the funds are distributed in increments below $250,000, all the principal and interest remain FDIC insured.

Charles Calomiris, professor at Columbia University, says:

It’s an important but little-known fact that every rich person can be 100 percent FDIC deposit insured without the inconvenience of having more than one bank relationship through CDARs.

The amount of money held in CDAR accounts is confidential, says Phil Battey, senior vice president of external affairs at Arlington, Va.-based Promontory Interfinancial Network, founded in 2003. But the network does “billions of dollars” in transactions every week.

Between FDIC insured TAGs, CDAR network accounts, basic FDIC insurance (raised to $250,000 from $100,000 since the 2008 financial crisis), and the conviction that the largest banks are too big to fail, it’s hard to escape the impression that the U.S. banking system enjoys extensive government support.

Because in the end, notwithstanding the fees it collects from banks, the FDIC is backed by the Full Faith and Credit of the United States.

Yes, taxpayers — that means you.

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