Q–I wonder why, when you write about certificates of deposit, you stress the importance of checking the strength of the financial institution. Isn’t it enough that the bank be covered by the Federal Deposit Insurance Corpo.?
A–It’s true the FDIC insures your money, up to $100,000 per financial institution for accounts registered the same way. It’s also true that bank failures, commonplace at the beginning of this decade, are rare these days.
Not a single FDIC-insured financial institution has failed this year, compared with five banks and one savings and loan last year, said David Barr, a spokesman for the FDIC in Washington.
But when a bank or thrift does fail–or even if it’s running into financial problems–FDIC insurance cannot solve all your problems.
For starters, you may have to wait for your money. Even if your account is FDIC-insured, it stops earning interest the day the bank is closed. The FDIC will send you a check for your principal and accrued interest, but it may take days or weeks to arrive.
Or, if another institution buys the one that fails and takes over your account, it has the right to pay you a lower interest rate. In that case, Barr said, you can take all your money out without penalties.
Even when a bank doesn’t fail, it may cost you.
“The kind of complaints we get the most today is when the institution is not failing but in serious financial condition,” said Warren G. Heller, research director for Veribanc, an independent bank-rating firm in Wakefield, Mass.
When that happens, “there seems to be a tendency toward raising fees and cutting back on services,” Heller said.
Veribanc, in business since 1981, uses a color-coded, star-rating system to pass judgment on the financial health of 10,041 banks, 1,301 savings and loans and 11,613 credit unions in the United States, based on the most recent figures.
The ratings range from the highest green with three-stars–that more than 85 percent of all banks get today–to the lowest red with no stars.
More than a third of the green, three-star banks currently earn a “blue-ribbon” designation. These are banks that have assets in excess of $50 million and meet the highest standards of profitability, capital strength, liquidity and other factors. None has failed in the 15 years the designation has been used.
Consumers can request a safety rating on a bank, thrift or credit union by calling Veribanc at 800-442-2657. The company charges a $10 fee for one rating and $5 for each additional one requested in the same call. Veribanc does not accept any money from banks; all its revenues come from individual and institutional clients.
To verify that a bank or thrift is federally insured, call the FDIC’s consumer affairs office at 800-934-3342. Or on the Internet you can visit the FDIC’s site,(http://www.fdic.gov) and get basic financial information about each FDIC-insured institution, including a balance sheet and income statement.
Q–A 20-year-old friend of mine was told that if she gives $100 a month to an insurance company, they would put $17 toward life insurance and $83 in mutual funds each month. The past rate of return has been a little over 12 percent a year and the expected rate of return is not much different. By following this plan, in 20 years my friend should have $1 million.
She was wide-eyed and ready to sign up, but I thought that the numbers didn’t work.
A–A lot of things don’t work in this story.
First, there is no way your friend will forever be paying $17 a month for life insurance. As she grows older, more of the $100 she is paying every month will go to pay for the actual insurance, and less will get invested.
The only way your friend can keep paying the same is if the death benefit is going down, or the $17 is far more than what she needs to pay now, or if the conpany is going to take money out of the mutual funds to pay for the insurance.
You didn’t tell me how much life insurance this $17 a month is supposed to buy, so it’s impossible to judge how good a deal this is.
The second problem is that nobody can predict 12 percent rates of return based on the past.
Third, even assuming a full $83 a month is invested in mutual funds, that amount does not grow anywhere near $1 million at 12 percent in 20 years. We are talking fifth-grade math here.
Investing $83 a month is just a bit under $1,000 a year. Let’s use $1,000 as a round number and even assume, which is not true, that the entire amount is invested at the beginning of the year.
After one year, the $1,000 at 12 percent has grown to $1,120 ($1,000 times 1.12). Add another $1,000 to start the second year and you have $2,120 which, invested at 12 percent, grows to $2,374.40 ($2,120 times 1.12).
Repeat the process–add $1,000, multiply by 1.12–and after 20 years you have $80,698.72. Or $919,301.28 shy of $1 million.
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Humberto Cruz will answer questions of general interest in his column. Write to him c/o Tribune Media Services, 435 N. Michigan Ave., Suite 1400, Chicago, Ill. 60611. Send e-mail messages to: HCruz5040aol.com.
