Insurance on deposits explained

In the context of safety of money, the scheme keeps depositors’ confidence intact
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A few days ago I came across a conversation at a function where bank failures in America were discussed threadbare. The group of people involved in the discussion were evaluating the bank failures in the context of their own place. They concluded that if a bank fails in a most developed and progressive country like America, it can happen anywhere in the world. The conversation ended with a question: “Is depositors’ money safe in the banks?”

It’s of course a scary situation for depositors when a bank fails. A bank depositor here in Kashmir expressing shock over the bank failure in America is not surprising. In the given situation, failure of a bank in any part of the world can have adverse impact on the health of banking and financial institutions in a far-off continent. It is because, in globalization the world is a global village and every part of the village is connected to each other.

So, the ongoing banking crisis in the US is a set back to the global financial system. Many financial institutions and the banks located in different global geographies are busy in evaluating the impact of the crisis on their operations. Even the corporate world is going to face the heat as they are connected to the US banking sector in the context of their businesses. Overall the scenario emerging out of the bank failures in the US is giving sleepless nights to one and all. General bank customers are also included in the list of worrisome stakeholders.

Here the structure of banks in our country merits a mention. We have different kinds of banks having varied ownership structures, and they together play a major role in the lives of the people. Our banking sector houses government-owned banks, popularly known as public sector banks, private sector banks, cooperative banks, regional rural banks and other financial institutions. And the strength of the system is that all these banks are regulated by a single entity - the Reserve Bank of India (RBI).

The role of the Reserve Bank of India (RBI) has been hailed time and again for keeping the banking system afloat during rough times through its series of regulatory measures. Even during the current bank failures in the US, the global experts have been quoting the efficiency loaded in our banking regulations. Earlier, in the global recession – 2008, the RBI was hailed for its role in protecting the country against the onslaught of the crisis. During Covid-19 pandemic, the RBI played a yeoman’s role to keep the engine of the country’s banking system running to keep the economy afloat.

Meanwhile, there is a bank deposit insurance scheme where all deposit accounts in banks are automatically insured. If a bank suffers problems and cannot meet its obligations to repay their depositors, the account holders are paid from the deposit insurance up to the maximum limit of the deposit insurance per account.

Let’s revisit the deposit insurance scheme so that depositors’ confidence in the context of the safety of their money remains intact.

What is a bank failure?

In simple terms, when a bank is unable to pay back the money to its depositors it is called bank failure. A bank failure is a huge risk for a country’s economy. 

The most hit in a bank failure are the depositors, particularly the high-value depositors. Needless to mention that depositors are key to the existence of the banking sector and safeguarding their money is vital to ensuring a bank’s prosperity.

In the words of the prime minister Narendra Modi: “Banks play a big role in the prosperity of the country. And for the prosperity of the banks, it is equally important for the depositors’ money to be safe. If we want to save banks, then depositors have to be protected.”

What are the features of this deposit insurance scheme?

Deposit Insurance and Credit Guarantee Corporation (DICGC) administer deposit insurance scheme. Under this scheme, deposits of all commercial banks, local area banks and regional rural banks are insured by the DICGC. The deposits such as savings, fixed, current, recurring, etc. fall within the ambit of this scheme. However, there are certain types of deposits which are not covered in the scheme, which include deposits of governments, Inter-bank deposits, etc.

Notably, all State, Central and Primary cooperative banks, which have amended the local Cooperative Societies Act empowering the Reserve Bank of India (RBI) to order the Registrar of Cooperative Societies of the State / Union Territory to wind up a cooperative bank or to supersede its committee of management and requiring the Registrar not to take any action regarding winding up, amalgamation or reconstruction of a co-operative bank without prior sanction in writing from the RBI are also covered under the scheme. However, primary cooperative societies are not insured by the DICGC.

What is the amount a depositor can get back in case of a bank failure?

Each depositor in a bank is insured upto a maximum of Rs. five lakh for both principal and interest amount held by him/her in the same right and same capacity as on the date of liquidation/cancellation of bank’s licence or the date on which the scheme of amalgamation/merger/reconstruction comes into force.

The deposits kept in different branches of a bank are aggregated for the purpose of insurance cover and a maximum amount of upto Rupees five lakhs is paid.

If an individual opens more than one deposit account in one or more branches of a bank, all these will be considered as accounts held in the same capacity and in the same right. It means, the balances in all these accounts would be aggregated for maximum insurance cover.

If an individual also opens other deposit accounts in his capacity as a partner of a firm or guardian of a minor or director of a company or trustee of a trust or a joint account in one or more branches of the bank then such accounts would be considered as held in different capacities and different rights. Accordingly, such deposits accounts will also enjoy the maximum insurance cover.

Are deposits in different banks separately insured under the scheme?

Yes. If you have deposits with more than one bank, deposit insurance coverage limit is applied separately to the deposits in each bank.

Who pays the premium of insurance on deposits?

The premium is paid by the bank and not the depositor. It’s noteworthy that the deposit insurance scheme is compulsory for the banks and there is no scope for any bank to withdraw from it.

What is the time limit for refund?

It is mandatory to make refunds within 90 days. Even if there is a moratorium on a bank, which means everything is frozen and depositors are not able to take money out of their account, the depositors will get their insured amount within 90 days and will not have to wait till the eventual resolution or liquidation of the bank.

What are the precautions one should take while depositing money with an institution?

Depositors have to be cautious while chasing higher returns on their investment. There are institutions offering higher rates. They should bear in mind that higher interest rates on deposits also bear higher risk. They should ensure that they are depositing their hard earned money with a financial institution that falls under the regulatory framework of the Reserve Bank of India. Financial institutions falling outside the ambit of the RBI framework are risky. And deposits parked with such institutions don’t fall under the deposit insurance scheme. 

Disclaimer: The views and opinions expressed in this article are the personal opinions of the author.

The facts, analysis, assumptions and perspective appearing in the article do not reflect the views of GK.

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