Are Variable Annuities Covered by SIPC?

Variable annuities offer a return based on the success of their investments.

Comstock/Comstock/Getty Images

If you're considering a variable annuity contract, consider the risk as if you were simply buying into a stock or mutual fund. The insurance company that sells you the annuity will offer no guarantee against a bankruptcy or company failure, nor will it guarantee the annuity's underlying investments. Federal deposit insurance only covers time deposits at insured banks, while the SIPC -- the Securities Investor Protection Corporation -- only protects you against the failure of a broker-dealer or custodial bank.

Variable Annuities

A variable annuity is a life insurance contract in which your premiums are invested in securities you select: for example, stocks, bonds, mutual funds or money market funds. After a fixed period of time, the annuity will pay either a lump-sum benefit or a monthly benefit that continues for the rest of your life. Variable means that the return on the policy varies with the return on the investment; by contrast, a fixed annuity guarantees a minimum payout, every month; the amount depends on the premium you pay. In times of down markets, you may have a zero or even negative return on the investments underlying a variable annuity contract.

SIPC Insurance

The Securities Investor Protection Corporation insures broker-dealers and other financial institutions, not insurance companies. Brokerages are required by law to separate client funds from operating funds; therefore a failure of a brokerage should not, in theory, cost its clients anything. However, by paying for SIPC insurance, a brokerage or a mutual fund can advertise itself as "Member SIPC," giving investors an assurance that their funds are safe if the firm goes out of business.

SIPC and Annuities

The SIPC specifically excludes annuities from its guarantee of coverage. However, the SIPC may be indirectly covering the sub-accounts you selected for the annuity. If the annuity is invested in a mutual fund, for example, that fund will hold its assets (cash, stock, bonds, certificates of deposit) in custodial accounts managed by affiliated banks. If the bank is a member of the SIPC, then assets in the accounts are protected against a failure of the bank. This does not guarantee against investment risk, which is still borne by the annuity holder.

State Guaranty Process

SIPC coverage is limited to $500,000 per client, of which a maximum $100,000 may be cash. The coverage provided by state guaranty funds, which are for the protection of insurance policyholders, varies with the state. A typical amount of coverage would be $300,000 for life insurance death benefits, and $100,000 in cash or surrender value. In the state of New Hampshire, for example, the New Hampshire Life and Health Insurance Guaranty Association covers annuities. If a life insurance company goes bankrupt, a receiver for the association supervises payment of cash value to policyholders, or the transfer of the annuity to another insurance company.