What SIPC Does, and Does Not, Cover

Your brokerage investments are covered under SIPC -- to a point. Here's what you need to know.

May 11, 2014 at 10:30AM

You may have seen the phrase "SIPC member" in information from your brokerage firm. What is SIPC, and more importantly, what does SIPC membership mean to investors?

SIPC, the Securities Investor Protection Corporation, is a non-profit organization created in 1970 under the Securities Investor Protection Act. SIPC provides limited coverage to investors on their brokerage accounts if their brokerage firm becomes insolvent. SIPC also, in many cases, protects customers from unauthorized trading in, or theft from, their securities accounts. All brokerage firms that sell stocks or bonds to the investing public, referred to as introducing firms, and firms that clear these transactions, referred to as clearing firms, are required to be members of SIPC. Some special-products firms, such as those that sell only mutual funds or variable annuities, are not members of SIPC.

SIPC protection has its limits. It covers the replacement of missing stocks and other securities up to $500,000, including $250,000 in cash claims. For purposes of SIPC coverage, customers are those who have securities or cash on deposit with a SIPC member for the purpose of, or as a result of, securities transactions. For example, if a customer has 1,000 shares of XYZ stock valued at $200,000 and $10,000 cash in the account, both the security and the cash balance would be protected. SIPC does not protect customer funds placed with a broker-dealer just to earn interest.

Importantly, SIPC coverage comes into play only when a firm shuts down because of financial circumstances in which customer assets are missing -- because of theft or unauthorized trading -- or are otherwise at risk because of the firm's failure. In virtually all cases, when an introducing firm ceases to operate, customer assets are safe, as they remain in the custody of the clearing firm. You will find the name of the clearing firm on your brokerage statements. The firm may be referred to as the "clearing" or "carrying" firm on the account statement. Historically, clearing firms have not been the subject of an SIPC proceeding. If such failure were to occur, customers would receive information from the SIPC trustee with respect to their assets.

What SIPC doesn't cover
SIPC does not cover:

• Ordinary market loss, which is the risk you face in a fluctuating market, when securities can fall in value.

• Investments in commodity futures, fixed annuities, currency, hedge funds, or investment contracts (such as limited partnerships) that are not registered with the Securities and Exchange Commission.

• Accounts of partners, directors, officers, or anyone with a significant beneficial ownership in the failed firm.

• Brokerage firm failures where customer assets were not the subject of theft or unauthorized trading.

SIPC liquidation
In the rare event of an SIPC liquidation, SIPC will generally ask a court to appoint a trustee to supervise the liquidation of an SIPC member that is insolvent or cannot return customer cash or securities. The trustee's duties include ensuring the return of customer property. The trustee will send claim forms to each customer of the liquidating broker-dealer based on the broker-dealer's records and publish notice of the liquidation on its website at www.sipc.org. The notice may also be published in some newspapers. Customers receiving a claim form must return it to the trustee by the deadline on the form or risk not recovering their cash or securities. The trustee reviews the customers' forms and determines what moneys to pay and what securities to return.

There are steps investors can take to minimize the chances of being involved with a brokerage firm that ends up in financial distress. FINRA has prepared a checklist that can help you steer clear of firms that pose financial and fraud risk.

For more information about investor protection, and saving and investing, visit the investors section of FINRA.org.

FINRA is the largest independent regulator for all securities firms doing business in the United States. Our chief role is to protect investors by maintaining the fairness of the U.S. capital markets. FINRA does not endorse, sponsor, or guarantee, nor is it sponsored by, any advertisers on this site, and any dealings with those advertisers are solely between you and the advertisers.

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