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New Deal on Cyprus Bank System Bailout Reinforces the Need to Stay Under the Insured Amount on Deposit Accounts

The bailout of the Cyprus Bank system continues as the very unpopular solution to tax deposit accounts unraveled last week. The new plan will still take a bite out of bank accounts with balances of 100,000 or more euros but accounts with less than 100,000 euros will be spared any "tax" or forfeiture to help pay for the bailout.

New Deal on Cyprus Bank System Bailout Reinforces the Need to Stay Under the Insured Amount on Deposit AccountsThe new plan still isn't good news for holders of deposit accounts that have 100,000 or more euros in their accounts. Instead of just taxing all deposit accounts, the Cyprus government is restructuring the banking system to take money from deposits to help pay for the bailout. The country's second largest bank, The Popular Bank of Cyprus (aka Laiki), will be shut down and deposit accounts below the 100,00 euro threshold will be transferred to the country's largest bank, Bank of Cyprus.

Uninsured deposit accounts of more than €100,000 will be frozen and will be used to resolve the Popular Bank of Cyprus' debts. At this point, it isn't clear how much will be taken out or taxed but this plan is sure to make many people angry. It just goes to show that no matter where you bank in the United States, the European Union, or anywhere else, if there is deposit insurance limit you need to keep your account deposit amount below that limit.

You never know what will happen and in this case the European Union isn't going to completely bail out the Cyprus banking system. During the financial crisis in the United States in 2008, the government had to step in and guarantee money market funds because the oldest fund, The Reserve Primary Fund, "broke the buck," when the net asset value of the fund fell to 97 cents. This happened after the fund had to write off debt due to the Lehman Brothers bankruptcy. This caused investors anxiety about all money market funds and investors started pulling money out, almost causing a run on money market funds. A few days after the Lehman Brothers bankruptcy, the U.S. Department of the Treasury stepped in and guaranteed the holdings of "any publicly offered eligible money market mutual fund." Both retail and institutional funds were eligible but they had to pay a fee to participate in the program.

The Treasury guaranteed that if a covered fund breaks the buck, it will be restored to $1 NAV. You can read about the Treasury guarantee in this New York Times Article back on September 19, 2008: Treasury to Guarantee Money Market Funds. The Treasury guaranteed money market funds against losses up to $50 billion.

The Federal Deposit Insurance Corporation (FDIC) insures certificates of deposit and other deposit accounts up to $250,000. Therefore, you need to make sure your deposit accounts are under the cap. The $250,000 includes interest earned. If you have more than $250,000 to invest in certificates of deposit you could open accounts at different banks but there is another way that makes it easier.

The Certificate of Deposit Account Registry Service (CDARS) is a service that allows you to have FDIC insurance protection up to $50 million. When you use this service, they spread your money throughout participating CDARS banks to make sure all your CD accounts remain under the FDIC insured amount.

The positive thing about this service is that you deal with one bank and open one account. Dealing with one bank and only having to open one account makes this concept great but there is a drawback. You won't get the best CD rates available when opening a CDARS account, regardless of which certificate of deposit term you choose. Then again, at least your money will be 100 percent insured by the FDIC.

You can see how CDARS CD rates compare with other bank CD rates by using our rate tables below which only lists CD bank rates from FDIC insured bank.
Author: Robert Till
March 26th, 2013