The investor safeguards provided by the Securities Investor Protection Corporation (SIPC) have become a factor in how Main Street Americans think about investing. Every year, SIPC member firms pay an assessment to the Corporation and, in return, SIPC works to return to investors missing cash or securities in the custody of failing or insolvent SIPC-member brokerage firms. It also maintains a reserve to meet remaining customer claims of up to $500,000, including a maximum $250,000 in cash.

The brokerage industry’s participation in SIPC represents a shared commitment to shielding investors from many of the negative impacts of a firm’s bankruptcy. SIPC not only benefits investors, but financial advisors by instilling confidence in brokerage firms, which have long enabled U.S. capital markets to fund companies while helping investors make progress on their financial goals.

Today, however, this shared commitment is in jeopardy, while the assessments that make it possible threaten to skyrocket even more than they have in the aftermath of the financial crisis. For financial advisors, it is critical to understand how we arrived at this point, and what we can do about it.

The current threat to SIPC started with the investor fraud committed by Allen Stanford. Stanford was convicted in 2012 of perpetrating a Ponzi scheme that cheated investors out of approximately $7 billion over several decades. Stanford sold his victims fraudulent high-interest certificates of deposit at an Antigua-based bank that he controlled, using the proceeds to fund his own lavish lifestyle. The bank, Stanford International Bank Ltd. in Antiqua, is not a SIPC member. The law that created SIPC, the Securities Investor Protection Act of 1970, does not authorize the Corporation to protect investors against the loss of monies invested with offshore banks or other firms that are not SIPC members.

In June 2011, the Securities and Exchange Commission (SEC) instructed SIPC to begin the process of compensating the Stanford victims. When SIPC pushed back, arguing that its mandate does not include guaranteeing the value of investments, protecting against fraud or covering investments in non-member offshore banks, the SEC sued to force SIPC to extend its coverage.

While the SEC’s effort to force SIPC to extend its coverage in this case may be motivated by compassion for the Stanford victims, it is clearly not based on firm legal footing. However, by forcing SIPC to take on liabilities it was never designed to cover, the SEC’s suit would greatly reduce SIPC’s ability to fulfill its intended mandate by draining its available funds. This could force the Corporation to tap its line of credit with the Treasury and dramatically increase member assessments, putting additional pressure on already thin brokerage margins.

Put simply, holding innocent firms responsible for fraud committed by others will drive more firms out of business, put surviving firms under significant financial stress, and make it more difficult for Main Street American investors to obtain the unbiased professional financial advice they need to reach their goals.

Today, despite a U.S. district court ruling in favor of SIPC in July 2012, the SEC is continuing its suit on appeal. That’s why now is the time for advisors to:

  • Reach out to your elected representatives. Advisors and firm executives should look for opportunities to engage their Congressional representatives on this issue where possible to make sure the SEC allows SIPC to remain focused on its original mission.
  • Support industry advocacy organizations that can stand up for you and your clients. Advocacy organizations have the focus, resources and expertise to monitor developments in this case and engage legislators and the courts on your behalf. The Financial Services Institute, for example, filed an amicus brief in April in the SEC v. SIPC case on behalf of the independent financial services industry.

The details of the SEC’s suit against SIPC may sound arcane, but, as the case moves forward, it is vital that firms and financial advisors be aware of the stakes involved and stay in close contact with industry organizations that can stand up for their interests and those of their clients.
Dale E. Brown is the president and chief executive officer of the Financial Services Institute.

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