What happens to securities if broker becomes bankrupt

[Ken_SF]

I am wondering how safe securities are if held by a broker with SIPC insurance should the broker go bankrupt.

For sake of example say I own T-Bills in a brokerage account. I realize the securities (in this case T-Bills) are backed up by the government but is the government going to make me whole or the broker whole? Would I have to rely on SIPC insurance to become whole or would the securities eschew to me independent of the bankruptcy?

It can be argued that the assets were purchased by the broker and I have an interest in a broker's account, not the actual securities. In that case if the broker goes belly up my claim is against the value in the account not the securities owned by the account, much like a bank that is taken over by the FDIC.

When a broker holds t-bills is it like a bank holding assets in a safe deposit box, where the contents are mine, or is it like money held in a bank, the money is the bank's and my claim is against the bank's overall assets?

Thanks in advance.

[aquaswim47]

As long as they are protected by SIPC, $500,000. Now if you happen to own stock in the broker, you'll lose everything. Depositor, lose nothing below $500K. Stockholder, lose your entire investment.

Think of the broker as the custodian. If the custodian goes bankrupt and is protected by SIPC, you are protected for $100,000 in cash and up to $500,000 in securities. If you own stock in that entity, than nothing is protected. It's that the securities in the company that become worthless. The custodian has a trust responsibility, thus to be responsible, it should at least have $500,000 in coverage.

[Ken_SF]

So that means you are better off holding securities yourself. In the case of T-Bills, I'd rather have the full faith and credit of the government behind me than an insurance company made up of many brokerages, right?

In our current environment I think its prudent to be wary of undercapitalized insurance carriers.

[HappyT90]

Some brokers offer "excess SIPC" coverage. For example, for Firstrade, on top of the $500,000 that the SIPC guarantees to cover, Customer Asset Protection Company (CAPCO), a licensed New York insurer, provides the remaining unlimited account protection. However, like you said, people have their doubts about undercapitalized insurance. Here's an old article: If Your Brokerage Goes Broke.

[Ken_SF]

Excellent response. Thank you. I also found this article from Time Magazine. I guess there is no such thing as security.

When the Broker Goes Broke - TIME

[becky]

I think Firstrade recently updated there account protection page:
Account Protection, Why Trade with Firstrade - Online Trading with Firstrade

[Ken_SF]

I have recently found the answer to this question and have learned how SIPC Insurance differs from FDIC insurance. For the benefit of any one who reads the forum, I learned the information on SIPC insurance from an attorney who works for Merrill Lynch and received the information in writing from this attorney.

SIPC insurance is a completely different animal than FDIC insurance and for good reason. When you give money to a bank they (hopefully) lend the money to customers and (hopefully) get paid back. You have a claim against the bank for the funds you have on deposit. If the bank goes bankrupt (is taken over by the FDIC) you are protected upto 250K (until Dec 31 2009) with FDIC insurance. You are at risk for any amounts over FDIC coverage limits. Simply stated your coverage is by social security# attached to the account. So if I am one person with 5 accounts and the total of all accounts is $300K I am at risk for 50K if the bank goes toes up. A husband and wife have 500K coverage since they are joint accounts. You can beat the system, according to the FDIC web site by having unique pay on death beneficiaries for each account. Frankly, I don't trust, that if push comes to shove that this will work, so I'm making sure I don't have more exposure at any one bank for more than the current FDIC limits. You can also look into something called CDARS to beat the system; CDARS is where one bank sells you a CD and they split the amount amongst other FDIC banks so you don't have to split the funds yourself. After looking at this I decided there were other disadvantages and it was easier to split funds myself.

SIPC insurance is a completely different animal. When you have money with a brokerage the brokerage holds the funds in trust for you and if the brokerage goes bankrupt your funds are not at risk unless there has been malfeasance. If there is, say your money was stolen, according to my Merrill Lynch contact, the loss is allocated amongst all customers of the brokerage and your loss is likely then diluted. This means you get a lot more bang for your buck with SIPC insurance compared with FDIC. Say your broker steals 50K from your account. If I understand the Merrill Lynch attorney correctly your loss is 50K divided by the total amount of assetts held by the brokerage for all customers. Your need for insurance is therefore very low, even if you have large balances with the brokerage. A wrinkle in all of this, which has not yet been addressed by the attorney I communicated with, is what recently was reported in the NY Times about the Bernie Maddoff case. In that case, so called clawback provisions, hurt stakeholders who withdrew monies from their accounts over the years. Say you had 50K invested with Bernie who 'made off' with the funds. Over 10 years you withdrew 20K in income from fake profits Bernie showed you on his statements. Your claim for SIPC coverage is 50K less the previously paid interest.

SIPC insurance isn't limited like FDIC insurance by social security number; if you need more insurance with a brokerage, just open a different account, even if titled the same and even if using the same social security number. Hard to believe, but that's what they told me.

What I don't understand is if you move the 50K you invested with Bernie to a new account 3 weeks before he was discovered to be a fraud, if the fact that there are zero drawings from the new account, erases the consequences of the clawback provisions. I have an inquiry now into my contact at Merrill and I haven't heard back.

If you are contemplating the sale of real property you probably want to make sure the escrow company puts funds in an account that is covered by insurance. A bank won't necessarily give you protection if the feds take over while your funds are in escrow. There are, if my information is right, a way to get unlimited protection with a bank account. You deposit money into a non interest bearing account and these accounts are fully insurance, regardless of the amount. I don't know a lot about these, just heard about them a few days ago; check with your banker and trust no one. If the bank is taken over the person you spoke to will be long gone, so make sure you know the rules before putting your money at risk. Hope this helps.