What Is SIPC Insurance and How Does It Work?

You may be familiar with Federal Deposit Insurance Corporation (FDIC) insurance coverage which protects money in your bank held in deposit accounts in case of bank failure. However, Securities Investor Protection Corporation (SIPC) insurance protects your investment accounts. While there are limits to how much this insurance covers per account, it protects a wide range of asset classes in the event a broker-dealer becomes insolvent.

What is SIPC insurance?

When you hold a brokerage account at a SIPC-member broker-dealer, the SIPC insures your investments and cash in the event of losses or brokerage failures caused directly by the brokerage. This insurance evolved from legislation designed to help boost consumer confidence in securities: the Investor Protection Act of 1970.

SIPC insurance limits

Should your brokerage fail or cause you a loss, your insurance from SIPC protects up to $500,000 worth of cash and securities in your account. However, the insurance will only cover up to $250,000 in cash held in your brokerage account.

For example, say you have $400,000 in securities and $100,000 in cash in your brokerage account. If you discover that your brokerage has shuttered operations, you can rest easy so long as the brokerage is a SIPC member.

On the other hand, if your account has $500,000 in securities and $50,000 in cash, you wouldn’t be fully covered. That’s because your total account value exceeds the SIPC’s $500,000 combined limit for cash and securities.

Securities covered by SIPC insurance

• Stocks
• Bonds
• Treasury securities
• Certificates of deposit
• Mutual funds
• Money market mutual funds

Securities not covered by SIPC insurance

• Fixed annuity contracts
• Foreign currency investments
• Commodity futures (an agreement to buy or sell a certain commodity, such as gold, at a specific time and price in the future)

Losses not covered by SIPC insurance

SIPC insurance only makes you whole if your brokerage goes out of business or directly takes action that causes a loss in your account. It does not cover losses that stem from the regular ups and downs of the markets, which are part of the normal risks and rewards of investing. And SIPC insurance won’t help you if your wealth manager makes a regrettable investment decision or your account underperforms expectations.

SIPC vs. FDIC insurance

While the acronyms share some letters, the SIPC and FDIC insurance have clear differences in coverage.

• Coverage from FDIC insurance. Up to $250,000 in an account held at an FDIC-insured financial institution should the bank fail.
• Coverage from SIPC insurance. Only makes you whole for the market value of your investments on the date the brokerage shuttered — plus the full value of cash accounts up to the $250,000 cap.

For example, say you bought 100 shares of Pets.com at $11 per share in February 2000. If your brokerage firm went under in November 2000 when Pets.com was trading at $0.19 a share, SIPC insurance would only reimburse you for 100 shares at $0.19 per share.

There are other differences between SIPC-insured brokerage accounts and FDIC-insured banking, including:

SIPC insurance and multiple brokerage accounts

The SIPC provides you with the maximum amount of coverage for each separate account you hold, providing those accounts are each classified as a different type, what is officially termed as “separate capacity.”

Some of the separate capacities — or types of accounts — the SIPC recognizes include:

• Individual accounts
• Joint accounts
• Corporate accounts
• Trust accounts created under state law
• Individual retirement accounts (IRAs)
• Roth IRAs
• Accounts held by executors for estates
• Account held by guardians for a ward or minor

To help clarify this important point, here are a few scenarios where you might have multiple accounts at the same brokerage with SIPC coverage:

• You have one individual account open in your name. Your account is covered up to $500,000.
• You have two individual accounts open in your name. Because an individual account is one type of “separate capacity,” your $500,000 worth of coverage is spread across both accounts.
• You have a traditional IRA account and a Roth IRA account. Each account is treated as a separate capacity, and so each receives the full $500,000 amount of coverage.

What happens if my brokerage goes under?

If your SIPC-insured brokerage fails, you have a number of layers of protection in place that should kick in before SIPC insurance.

If your brokerage was compliant with FINRA’s regulatory rules and capital reserve requirements, you can expect the failed brokerage to self-liquidate. During this stage, the brokerage should return all of its customers’ securities and other assets in a timely fashion.

If your brokerage ran afoul of these regulations and the SIPC needs to intervene, you’ll receive a letter indicating that the SIPC has begun a liquidation proceeding in court. You should then carefully follow the instructions set forth by the SIPC and fill out all of the required forms in a timely fashion.