Uninsured deposits -- who gets paid first when a bank goes under?

Worried about the slumping stock market, 55-year-old Fran Sweet of Downers Grove, Ill., decided to put her $500,000 retirement fund into an account at Superior Bank. It was June 29, 2001.

Less than one month later, the government shut down Superior Bank, a financial institution allegedly plagued by bad loans and bad accounting.

While Sweet had no knowledge of Superior's problems, she did know the Federal Deposit Insurance Corporation would only insure $100,000 in the event of a bank failure. It didn't concern her until she showed up at the bank and the doors were locked.

"The day it went into receivership, I went to the bank to make a deposit. I was stunned to see the FDIC in there," says Sweet.

"I wasn't concerned about so much money being uninsured because I thought the problems with the banks had been fixed in the savings-and-loan shakeout in the 1980s."

The heart-stopping realization that she might not get back 80 percent of her money sickened Sweet.

- advertisement -

"I thought I'd get nothing back except the $100,000."

She wasn't the only one with that sinking feeling.

Uninsured deposit risks
When Superior Bank failed, it had more than $66 million in uninsured deposits.

We Americans are a trusting bunch when it comes to our banks. Approximately 370 banks went belly up from 1992 through 2001. At the time they folded, those institutions had a total of more than $673 million in uninsured deposits, according to FDIC records.

"A lot of depositors realize they have uninsured money and they're just playing the odds that their bank isn't going to fail," says FDIC spokesman David Barr.

"They want their funds all in one bank. There are about 9,500 FDIC insured institutions. Ten failed this year, so the odds are in your favor.

"A lot of the uninsured are municipal governments, school districts, and churches."

While it's never a good idea to have uninsured money in a bank, depositors -- both insured and uninsured -- are at the top of the totem pole when it comes to receiving money after a bank failure. Disbursements are made on a periodic basis as assets are sold. The FDIC has been able to return, on average, 73 percent of uninsured deposits to customers.

But you can be separated from your money for a long time.

"It can take years for uninsured deposits to be paid," says Barr.

"Universal Federal failed in June 2002, and the uninsured depositors have received 90 percent of their money back. But if you go back to Sinclair National Bank, which failed in September 2001, those uninsureds have received only 9.7 percent so far. It depends on the assets."

Typically, there are a couple of scenarios when a bank fails. If the FDIC finds someone to buy the bank, the bank is up and running the next business day, checks clear and ATMs spit out money.

But the buyer decides whether to purchase the uninsured deposits. More often than not, they don't. The uninsured deposits go into receivership and customers get a receivership ticket for their claim. Any money the FDIC can recover goes toward claims.

"If we don't find a buyer, the FDIC typically closes the bank on a Friday and checks are in the mail by Monday for insured deposits," according to Barr.

"There will be a couple of days over the weekend where customers don't have access to their funds. The ATMs go offline and checks that haven't cleared by Friday afternoon are returned."

The FDIC then liquidates the bank's assets and uses the money to repay uninsured deposits.

Equal in the eyes of the FDIC
If you're the little old lady from Pasadena with $10,000 in uninsured deposits, you needn't worry about fat cat XYZ Corporation with $10 million in uninsured deposits muscling you to the back of the line when the FDIC starts handing out money.

"All uninsured depositors, whether governments, school districts, businesses or individual consumers, are treated equally," Barr explains.

"All creditors get a receivership ticket. The FDIC pays a percentage of it. So, if you have $1,000 in uninsured deposits and the FDIC has enough money to pay everyone 25 percent, you get $250. Someone who has $1 million in uninsured deposits would get $250,000."

Depositors also receive post-insolvency interest on uninsured money returned by the FDIC.

When a bank closes, FDIC representatives usually spend a couple weeks at the bank or a nearby location setting up appointments to meet with uninsured depositors face-to-face.

"People are angry initially. They calm down as they talk with FDIC claim reps," says Barr. "We explain the claims process and how it works. That helps, but it's when checks start showing up in the mail -- actions speak louder than words. But there is uncertainty when a bank closes."

Depositors who are unable to meet with FDIC claim reps are sent a letter explaining the process and listing the amount the FDIC believes the customer has in insured and uninsured deposits.

To date, Fran Sweet has received 52 percent of her uninsured deposits. While she's glad to have gotten back some money, she's says she's still very angry and worried she won't get it all.

"The FDIC is very bad at communicating with people who have lost money. You just get a check in the mailbox. None of us have any idea of what we can expect. The amount of the first check was significant. The second was about half and the third was about half of that.

"I want all my money back. What happened at Superior was the same as at Enron and WorldCom. But you expect more from a bank. You don't expect putting your money in a bank to be a gamble."

Barr says the FDIC doesn't send out notices as to when checks will be arriving because it wants to keep costs down.

"Instead of sending out a notice that you'll be receiving a check, we just send the check. We don't try to make any predictions of how much we are going to recoup because if we don't hit those goals we don't want people coming to us saying, 'You said we would get 85 percent back, we got 60 percent, what happened?'

"The checks will continue to dwindle in as money funnels down through the receivership. Then, a notification will go out when all the assets are sold that no more money will be distributed."

Fail-safe-deposit plans
If you plan on keeping more than $100,000 in a bank, there are ways to divide the money so that more of it is covered by deposit insurance. This won't work if all the money must be kept in one account such as an IRA.

The FDIC says deposits maintained in different categories of legal ownership are separately insured. The most common categories of ownership are individual, joint, retirement, and pay-on-death.

Here's an example of how a husband and wife could have $800,000 fully insured at one bank.

Husband and wife each have $100,000 in individual accounts.
They have $200,000 in a joint account.
Each has $100,000 in retirement accounts.
Each set up a $100,000 revocable trust account, payable on death, naming each other as beneficiaries.

In addition, they could set up as many revocable trusts as they want for other qualified beneficiaries: parents, siblings, children, grandchildren. Each beneficiary account would be insured up to $100,000. Nieces, nephews, aunts and uncles are not qualified beneficiaries.

While you may have a living trust account, there is no ownership category called living trust. If a bank fails, the FDIC will look at a particular living trust account and decide whether it's an individual, joint or pay-on-death account.

"A living trust often voids the extra insurance. A lot of them have qualifying events or contingencies," says Barr.

"Say you set up a trust for your three children and you have $300,000. It would be fully insured but then you have some contingency that has to be satisfied. The children have to graduate from college before the money gets turned over to them. That puts into question whether the child really is the beneficiary of your money. We don't know if your children will graduate and we can't wait, the money has to be handed out now."

If you want to set up a pay-on-death account, keep it simple; if you die the money goes to a designated beneficiary. If the bank fails, the FDIC will honor that and fully insure the account.

Keep in mind that dividing your money among different branches of the same bank won't give you increased coverage. The main office and all its branches are considered one bank. If you have more than $100,000 in IRA money you'll need to divide it among two or more financial institutions.

Some customers of failed banks say their institution never told them to divide money into different accounts so that it's fully insured. Others say bank personnel gave them bad advice and that despite setting up the accounts as told, they later learned their money wasn't insured.

Unfair as it may seem, the FDIC says the responsibility for correctly setting up the accounts rests on the depositor's shoulders.

The FDIC advises talking with a bank representative about setting up accounts, but then double-check the plan before depositing any money.

Ask your bank for a copy of the FDIC booklet "Your Insured Deposit." You can also find the booklet on the FDIC Web site.

When you think you have a properly structured plan, call the FDIC consumer hotline at (877) 275-3342 and check it with them.

Don't be caught off guard by a bank that's on shaky ground financially. Bankrate.com's Safe & Sound rating feature lets you see the financial condition of banks, thrifts and credit unions. Check out your bank and make sure it's keeping your money safe and sound.

-- Posted: Jan. 3, 2003