Net Gains: Are All of Your Savings Insured?

Two small banks have failed so far this year, and there are concerns that others could go belly-up as the fallout from the sub-prime mortgage crisis spreads.

If you have a large amount of cash parked in your bank, you should take note of what happened to 33 account holders when the Federal Deposit Insurance Corporation took control of one of those failed banks.

When state regulators shut down Hume Bank, a single-branch institution in Hume, Mo., on March 7, 33 unlucky customers may have lost a total of $1.1 million because their deposits exceeded the bank's coverage by the FDIC .

The account owners may still recover part or all of their uninsured funds, but it will be a long process with no guarantees.

The episode underscores why it is critical for bank customers with deposits of $100,000 or more to understand how federal deposit insurance works. Knowing the basics can help you make sure your money is safe during uncertain times.

Few of us born after the Great Depression worry that the bank where we do business will collapse. Such failures are a rare occurrence these days.

Last year, just three banks failed among more than 8,500 insured by the FDIC. But the Hume Bank takeover was the second one already this year.

Though the rapid Bear Stearns downfall did not touch retail banking customers, it still shook confidence in the nation's financial system. I heard directly from worried readers wanting to know about what FDIC insurance covers and what it does not.

The bottom line is that there is no reason to put your bank deposits at risk by exceeding the limits for insurance provided by the FDIC or its regulatory cousin, the National Credit Union Administration.

With a little attention to detail, it is possible for a single person to park more than $500,000 in fully insured deposits at a single bank, even though the basic insurance amount is $100,000.

Before reviewing deposit insurance basics, let me pause to say I don't necessarily advocate holding $500,000 in cash unless you have a short-term use for it in mind, like buying a home or business. If it's your long-term nest egg, then you probably want to allocate a portion of it to stocks and bonds along with cash as part of an appropriately diversified portfolio.

That said, let me explain the main rules governing deposit insurance. The same basic rules apply both to FDIC-insured banks and NCUA-insured credit unions. They apply per institution, meaning if you reach your limit at one bank, you can open go to another bank to qualify for coverage there.

The key thing to know is that the $100,000 insurance limit per bank is determined by account ownership categories – such as single versus joint accounts. For each ownership category, a separate $100,000 insurance limit applies.

That means one individual could be insured for up to $100,000 for a single account and another $100,000 in a joint account with a spouse or somebody else. Other ownership categories that could hold additional insured funds for the same person include payable-on-death accounts, irrevocable trusts and corporation accounts.

In addition, a 2006 change in federal laws provides a separate $250,000 insurance limit for various types of retirement accounts, including IRAs, Section 457 plans and Keogh plans. Keep in mind the insurance on these accounts applies only to bank deposits such as savings accounts or CDs. It does not apply to mutual funds, annuities or other securities sold through a bank.

Deposit account type or bank branch make no difference when calculating your insurance limit. You do not double your insured amount by opening both a checking and savings account at a single bank or opening accounts at separate branches of the same bank.

When the FDIC steps in, it looks at your accounts by ownership category.

There are multiple combinations one can develop to push your deposit insurance limit beyond $100,000 at a single bank. I can't go into them all here, but let me offer one example.

A married individual could easily secure up to $550,000 in deposit insurance at a single bank by setting up accounts in the following manner:

A single account with $100,000;

A joint account with a spouse that holds $200,000 with each person insured for up to $100,000;

And an IRA holding $250,000.

That $550,000 limit can be pushed even higher through the use of payable-on-death accounts or irrevocable trusts.

As you can see, the more ownership categories involved the more complicated it gets. For instance, a married couple with three children can ensure coverage for up to $800,000 using payable-on-death accounts.

Before trying that, however, I'd suggest a visit to the FDIC Web site to see how your own financial circumstances might fit into the deposit insurance rules. In particular, look for the FDIC's Electronic Deposit Insurance Estimator at www.fdic.gov/edie, an online calculator that can help determine your own insurance limit.

Don't ever put yourself into the position of the 33 Hume Bank depositors now wondering if they will ever see their $1.1 million. It need not happen to you.

This work is the opinion of the columnist and in no way reflects the opinion of ABC News.

David McPherson is founder and principal of Four Ponds Financial Planning (www.fourpondsfinancial.com) in Falmouth, Mass. He previously worked as a financial writer and editor for The Providence Journal in Rhode Island. He is a member of the Garrett Planning Network, whose members provide financial advice to clients on an hourly, as-needed basis. Contact McPherson at david@fourpondsfinancial.com