Explaining deposit insurance when a cooperative bank fails
A district central cooperative bank has been placed under moratorium, and the branch must explain deposit insurance to depositors. Mr Rao's position at the bank is:
- a savings account of ₹80,000 and a fixed deposit of ₹4,20,000 (₹4,00,000 principal plus ₹20,000 accrued interest), both in his own name;
- a fixed deposit of ₹3,00,000 (₹2,80,000 principal plus ₹20,000 interest) held jointly with his wife and marked 'either or survivor';
- a fixed deposit of ₹6,00,000 in the name of a partnership firm in which he is one of two partners;
- ₹1,50,000 of the bank's tier-2 bonds and ₹2,00,000 of units in a liquid mutual fund, both bought through the same branch. He also holds fixed deposits of ₹7,50,000 in another stressed bank. He has heard that 'the government pays five lakh' and wants one number for his family. The branch manager asks you to prepare the note, including the treatment of the joint account and of the firm's deposit.
1. Compute what will actually be paid, and explain the rules that produce each figure.
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The cover is ₹5,00,000 per depositor per bank, on principal plus interest, and deposits are clubbed only where they stand in the same bank in the same capacity and the same right.
Bank X:
- Own-name deposits: savings ₹80,000 + fixed deposit ₹4,20,000 = ₹5,00,000. This is exactly at the ceiling, so ₹5,00,000 is payable in full.
- Joint account: each joint holder is treated as a separate depositor for their own share. His share is ₹1,50,000 and stands in a different capacity from his sole deposits, so it is not clubbed with the ₹5,00,000 above. Payable: ₹1,50,000.
- Firm's deposit: a partnership firm is a separate depositor from its partners. ₹6,00,000 is therefore capped at ₹5,00,000 - but that money is the firm's, payable to the firm, not to him personally.
- Tier-2 bonds and mutual fund units: not deposits. Nothing is payable on the ₹1,50,000 or the ₹2,00,000.
Bank Y: ₹7,50,000, capped at ₹5,00,000. Cover is per bank, so this is entirely separate from Bank X.
His personal total: ₹5,00,000 + ₹1,50,000 + ₹5,00,000 = ₹11,50,000, plus ₹5,00,000 to the firm. The number to give the family is ₹11,50,000, with the firm's ₹5,00,000 shown separately.
2. He argues that because the joint deposit says 'either or survivor', the whole ₹3,00,000 is his and his wife's share should not be counted separately. Address the argument.
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Two different things are being conflated: the mandate to operate an account, and the ownership of the deposit for insurance purposes.
'Either or survivor' is an operating instruction. It tells the bank that either holder, or the survivor, may receive payment. It does not convert a joint deposit into a sole deposit, and it does not make the wife's beneficial interest disappear.
For deposit insurance, both joint holders are depositors, and the share of each is worked out - ordinarily equally unless the bank's record shows otherwise. His share is ₹1,50,000. Two consequences follow, and he will like one of them:
- The wife's ₹1,50,000 cannot be added to his insurance ceiling; his own-name deposits already use up ₹5,00,000.
- Equally, the entire ₹3,00,000 cannot be loaded onto his side just because he survives. That would let a single depositor defeat the per-depositor cap by holding deposits jointly.
On payment, the bank's liquidation process may release the money to the survivor because that is how the account is mandated to operate, but the amount insured is still computed on shares. The distinction to explain plainly: survivorship decides who collects; it does not decide how much is insured.
3. The family proposes splitting the firm's ₹6,00,000 into two accounts in the same bank, so that 'each account gets five lakh'. Will that work? What would?
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It will not work. Clubbing follows the depositor's identity, not the number of accounts or folios. Two accounts of ₹3,00,000 each in the name of the same partnership firm, in the same bank and the same capacity, are clubbed into a single deposit of ₹6,00,000 and insured to ₹5,00,000. Splitting into three or six accounts changes nothing.
What actually changes the cover:
- A different bank. The ₹5,00,000 limit is per depositor per bank, so the firm moving part of its deposit to another bank creates genuinely separate cover.
- A genuinely different depositor or capacity. Deposits of the firm and deposits of its partners in their individual names are separate depositors. But transferring the firm's money into the partners' personal names changes ownership of the funds, needs the firm's authority and has tax and accounting consequences - it is not an administrative adjustment to be done after the failure is announced.
One warning to put in the note: arrangements whose only purpose is to multiply insurance cover can be examined on their substance, and a split made after the moratorium has no effect at all, because the relevant position is the position as on the date the bank was placed under restriction. The honest advice is diversification across banks while the bank is healthy, not restructuring afterwards.