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entitled 'Follow-Up on GAO Recommendations Concerning the Securities 
Investor Protection Corporation' which was released on August 09, 2004.

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Washington, DC 20548:

United States General Accounting Office:

July 9, 2004:

The Honorable John D. Dingell:
Ranking Minority Member:
Committee on Energy and Commerce:
House of Representatives:

The Honorable Barney Frank:
Ranking Minority Member:
Committee on Financial Services:
House of Representatives:

The Honorable Paul E. Kanjorski:
Ranking Minority Member:
Subcommittee on Capital Markets, Insurance and Government Sponsored 
Committee on Financial Services:
House of Representatives:

Subject: Follow-Up on GAO Recommendations Concerning the Securities 
Investor Protection Corporation:

The Securities Investor Protection Act of 1970 (SIPA), which 
established the Securities Investor Protection Corporation (SIPC) to 
provide certain financial protections to the customers of insolvent 
securities firms, gave the Securities and Exchange Commission (SEC) 
responsibility to oversee SIPC. Our May 2001 report Securities Investor 
Protection: Steps Needed to Better Disclose SIPC Policies to Investors 
stated that both SIPC and SEC could better disclose information on 
SIPC's policies, practices, and coverage to investors.[Footnote 1] In 
July 2003 we reported that SEC had taken steps to improve its oversight 
of SIPC and that both SEC and SIPC had enhanced their efforts to 
educate investors but additional steps were needed.[Footnote 2] In that 
report, we 

* noted that both entities could still do more to disseminate 
information to investors about SIPC and how to avoid investment fraud;

* summarized a 2003 SEC examination report of SIPC that recommended, 
among other things, that SIPC improve its controls over trustee fees 
and establish guidance to determine the validity of unauthorized 
trading claims[Footnote 3];

* found that three of the four major insurance companies that offered 
excess SIPC insurance--private insurance that securities firms can 
purchase to cover claims that are in excess of the $500,000 (which 
includes $100,000 cash) limits set by SIPA--had stopped underwriting 
such policies; and:

* found that disclosures were lacking concerning the scope and terms of 
excess SIPC coverage and the claims process.

This letter responds to your August 11, 2003, request that we report on 
the status of our recommendations relating to SEC's oversight of SIPC 
and investor education. As requested, this letter also includes 
information on SIPC's progress in implementing SEC's recommendations 
from its January 2003 examination of SIPC and the status of excess SIPC 
coverage. Specifically, our objectives were to (1) determine the status 
of our recommendations to SEC and SIPC from our two previous reports on 
SIPC, (2) review recent actions SIPC has taken to address 
recommendations from the 2003 SEC examination report, and (3) determine 
the status of excess SIPC coverage after three U.S. insurers ceased 
offering the product.

To determine the status of our recommendations to SEC and SIPC, we 
interviewed officials from SEC, SIPC, the New York Stock Exchange 
(NYSE), and the National Association of Securities Dealers (NASD) and 
reviewed sections of SIPC's Trustee Guide and other relevant documents. 
To review SIPC's progress in implementing SEC's recommendations, we 
interviewed representatives from SEC's Office of Compliance, 
Inspections, and Examinations (OCIE) and reviewed sections of SIPC's 
Trustee Guide regarding SIPC's policies on documentation of fees and 
services and record retention. To determine the status of excess SIPC 
coverage, we interviewed officials representing the only two insurers 
currently offering the product, the Customer Assets Protection Company 
(CAPCO), a consortium of 14 large securities firms created in response 
to the three insurance companies leaving the market; and Lloyd's of 
London. We conducted our work from April through June 2004 in 
accordance with generally accepted government auditing standards.

Results in Brief:

SEC has implemented three of the five outstanding recommendations from 
our previous two reports on SIPC and is still responding to two of 
them, and SIPC has implemented our recommendation. First, in response 
to our recommendation that SEC establish a formal procedure to share 
information about SIPC among its various divisions and offices, SEC 
held a few formal meetings and subsequently determined that holding 
informal meetings on an as needed basis was more effective. In our 
discussions, SEC staff representing the various divisions and offices 
involved with SIPC issues agreed that this format allowed for the 
sharing of relevant information; therefore, we considered this to be an 
effective response to our recommendation. Second, SEC has implemented 
our two recommendations aimed at improving the information that 
securities firms provide to investors about excess SIPC protection. As 
recommended, SEC directed the self-regulatory organizations (SRO)--
NYSE and NASD--to send notices to member firms instructing them to tell 
their customers about any changes in or loss of excess SIPC protection 
and to provide them with meaningful disclosures about the protections 
the policies now offer. However, SEC is still in the process of 
responding to our recommendations requiring (1) that clearing firms 
include information on account statements about documenting 
unauthorized trades in writing and (2) that securities firms distribute 
SIPC brochures to new customers. SIPC has also taken steps to implement 
our recommendation on improving investor awareness of SIPC and 
cautioning investors to avoid unintentionally ratifying an unauthorized 
trade. As recommended, SIPC has updated its brochure and Web site to 
provide links to specific Web pages to help investors access relevant 
information about investment fraud and other potentially useful 
information on investing.

SEC staff are currently following up on SEC's recommendations to SIPC 
contained in the SEC's examination report of SIPC dated January 2003. 
Although SEC staff are in the process of determining whether all of 
SIPC's responses to their 2003 recommendations are adequate, their 
preliminary findings indicate that SIPC has taken steps to improve its 
policies and operations. In response to SEC's recommendations, SIPC has 
updated its Trustee Guide to include (1) additional guidance on 
establishing valid unauthorized trading claims, (2) additional 
requirements for trustees and counsel concerning record keeping and 
filing of invoices for their services and expenses, and (3) a 
requirement governing record retention on liquidation proceedings.

Currently, only two insurers underwrite excess SIPC policies--CAPCO and 
Lloyd's of London. After three major domestic insurers discontinued 
offering excess SIPC coverage in December 2003, a consortium of 14 
securities firms organized and capitalized CAPCO to offer excess SIPC 
coverage to customers of the securities firms. CAPCO's policy is 
similar to those previously offered by the domestic insurers. To help 
the securities firms provide meaningful disclosures on the level of 
coverage, CAPCO designed its Web site to include information on its 
excess SIPC policy, instructions on filing claims for excess coverage, 
a sample copy of the policy, and a sample claim form.

We provided a copy of the draft report to SEC and SIPC for comment and 
both SEC and SIPC generally agreed with the contents of our report.


SIPC's statutory mission is to promote confidence in securities markets 
by allowing for the prompt return of missing customer cash or 
securities held at a failed securities firm. As required under law, 
SIPC either liquidates a failed securities firm itself (in cases where 
the liabilities are limited and there are fewer than 500 customers) or 
a trustee selected by SIPC and appointed by the court liquidates the 
securities firm. When possible, accounts at a failed securities firm 
are transferred to another securities firm, and when necessary, SIPC or 
a trustee attempt to satisfy the "net equity" claims of 
customers.[Footnote 4] SIPC is not intended to keep securities firms 
from failing or to shield investors from losses caused by changes in 
the market value of securities.

Customers of a failed brokerage firm will receive all securities (such 
as stocks and bonds) that are already registered in their name or are 
in the process of being registered. After this first step, the firm's 
remaining customer assets are then divided on a pro rata basis, with 
funds shared in proportion to the size of claims. If sufficient funds 
are not available in the firm's customer accounts to satisfy claims 
within these limits, the reserve funds of SIPC are used to supplement 
the distribution, up to a ceiling of $500,000 per customer, including a 
maximum of $100,000 for cash claims. For example, if only 98 percent of 
a liquidated firm's customer assets could be accounted for, customers 
would receive 98 percent each of their net equity claims. Thus, a 
customer with net equity of $10 million would receive 98 percent, or 
$9.8 million. SIPC would then use its reserve fund to purchase $200,000 
in securities, assuming that the customer had a valid claim for 
securities, and the customer would recover the entire $10 million.

To protect customers who have claims in excess of the SIPC limit, 
insurers began offering excess SIPC coverage to securities firms. 
However, such claims above the SIPA limit have been rare. The amount of 
customer funds recovered determines if the investor will have a loss 
and whether excess SIPC coverage would be triggered. For example, if 
the trustee determined that 50 percent of the customer assets were 
missing, a customer who is owed $1 million in assets would receive a 
$500,000 pro rata share from the estate and an advance from SIPC at its 
statutory limit of $500,000. However, a customer with $5 million in net 
equity with the same 50 percent pro rata share would receive a pro rata 
share of $2.5 million from the firm's customer assets and an SIPC 
advance of $500,000, and would have an unsatisfied net equity claim of 
$2 million that could be eligible for excess SIPC coverage, if offered 
by the securities firm. Conversely, a customer with $5 million in 
assets and a pro rata share of 90 percent or higher would be made whole 
by SIPC.

SIPA gives SEC oversight responsibility for SIPC. SEC must approve all 
proposed changes to rules or bylaws and may require SIPC to adopt, 
amend, or repeal any of them. In addition, SIPA authorizes SEC to 
conduct inspections and examinations of SIPC and requires SIPC to 
furnish any reports and records that SEC believes fulfill the purposes 
of SIPA, are necessary or appropriate, or are "in the public interest." 
A number of the SEC's divisions and offices have various 
responsibilities with respect to SIPC, with the Division of Market 
Regulation having the primary responsibility for ensuring SIPC's 
compliance with SIPA.

SEC and SIPC Have Taken Steps to Address Our Recommendations:

Our 2003 report on SIPC noted that SEC and SIPC had made significant 
progress toward addressing our concerns about SEC's oversight of SIPC 
and the information SEC and SIPC provided to investors about SIPC's 
policies and practices. However, we also found that additional work 
needed to be done. Since then, SEC has taken actions to address all 
five of the outstanding recommendations either directly or indirectly 
by delegating implementation to the SROs. SIPC has also responded fully 
to our recommendation.

SEC Has Worked with the SROs to Address Our Recommendations:

First, we recommended in our 2001 report that SEC implement a 
recommendation made by the SEC's Inspector General in a 2000 review 
that the Division of Market Regulation, the Division of Enforcement, 
the Northeast Regional Office (NERO), and OCIE conduct periodic 
briefings to share information related to SIPC. When our 2003 report 
was issued, SEC officials said they had begun to hold quarterly 
meetings but questioned whether these meetings were useful. The SEC 
officials said that holding informal meetings as SIPC issues arise 
would be more effective. During this review, SEC officials said they 
have since met several times when SIPC-related issues have arisen. For 
example, officials representing General Counsel, Market Regulation, 
OCIE, and NERO have met a few times in 2004 to discuss the progress of 
OCIE's recent follow-up work at SIPC. In the view of the SEC officials 
involved, a reasonable amount of coordination on SIPC issues has 
occurred across SEC offices. Officials from several SEC offices, 
including Market Regulation, General Counsel, and NERO, agreed that in 
their view periodic meetings, as the need arises, provided effective 
oversight of SIPC. As long as all of the relevant SEC units continue to 
meet and share information about SIPC-related issues, this approach 
effectively responds to the concern our recommendation was intended to 

Second, to ensure that investors were told about any changes in their 
excess SIPC coverage, in 2003 we recommended that SEC and the SROs 
monitor how securities firms informed customers of any changes in or 
loss of protection. In March 2003, SEC had begun a limited review of 
SIPC-related issues. However, because most of the securities firms that 
had excess SIPC coverage were NYSE members, SEC asked NYSE to gather 
information about excess SIPC coverage and information about the 
policies. When several underwriters decided to stop providing coverage, 
SEC suspended most of its review activity. Given the concerns that we 
and others had raised about excess SIPC coverage, in 2003 SEC agreed to 
work with the SROs on our recommendation. In July 2003, both NASD and 
NYSE instructed their member firms to provide customers with 30 days' 
notice before any reduction in or termination of the securities firms' 
excess SIPC coverage.

Next, we recommended in 2003 that SEC and the SROs ensure that 
securities firms offering excess SIPC coverage provide investors with 
meaningful disclosures about the protections the policies offer. 
According to SEC and CAPCO officials, in response to our findings CAPCO 
began including in its policies a more detailed explanation of how and 
when claims for excess SIPC coverage would be paid. Our review of 
CAPCO's Web site revealed that it had posted a detailed description of 
policy coverage and a sample copy of the policy and had included 
procedures for filing a claim and a copy of the claim form. In 
addition, an NYSE official said that its examiners reviewed a member 
firm's Web site during an examination of the securities firm to ensure 
that the Web site contained meaningful disclosures about excess SIPC 

Fourth, we recommended in 2001 that SEC, in conjunction with the SROs, 
establish a uniform disclosure rule requiring clearing securities firms 
to put a standard statement about documenting unauthorized trading 
claims on their trade confirmations, other account statements, or both. 
According to SEC officials, both NASD and NYSE are supportive of this 
recommendation and will implement it through rule making. As of June 
25, 2004, according to an SEC official, NASD had begun to draft the 
rule but had not submitted the draft rule to SEC.

Lastly, we recommended in 2001 that SEC require SIPC member securities 
firms to provide the SIPC brochure to their customers when they open an 
account and encourage firms to distribute the brochure to existing 
customers more widely. This recommendation was an additional step aimed 
at educating and better informing customers about how to protect their 
investments and the extent of SIPC coverage. The updated SIPC 
informational brochure, called How SIPC Protects You, provides useful 
information about SIPC and its coverage.[Footnote 5] However, SIPC 
bylaws and SEC rules do not require SIPC members to distribute the 
brochure to their customers; only SEC or the SROs can institute such a 
requirement. SEC included this recommendation in its April 15, 2003, 
letter about SIPC issues to NYSE and NASD and asked them to explore how 
it could be implemented through SRO rule making and notices to members. 
According to SEC and SRO officials, the SROs will not be fully 
implementing the recommendation because, among other things, they are 
concerned that the cost of purchasing the brochures would outweigh the 
benefits and have instead decided to require the securities firms to 
add a telephone number on the new account document that interested 
customers can call for information on SIPC. The SIPC brochures are 
available to securities firms for customer distribution, but at a cost. 
A SIPC official told us that SIPC prints only a small number of the 
brochures for responding to public requests that it receives and for 
the federal distribution center located in Colorado.[Footnote 6] The 
brochures are available to the securities firms through NASD and the 
Securities Industry Association (SIA). SIPC sends a copy of the 
brochure to NASD and SIA, which are responsible for the printing and 
the cost of the brochures. According to an NASD official, securities 
firms must pay NASD $15 per 25 brochures, plus shipping costs. 
Similarly, SIA charges 75 cents per brochure, plus shipping costs. We 
continue to believe it is important for investors to be adequately 
informed about SIPC and its coverage and that there may be other 
alternatives to getting the SIPC brochure to clients. However, if the 
SROs decide that the costs outweigh the benefits for member firms to 
include the SIPC brochure with every new account package, then at a 
minimum the SROs may want to consider encouraging securities firms to 
provide their customers with both SIPC's telephone number and Web site 
address on a new account document.

SIPC Has Taken Steps to Improve Investor Education:

In our 2003 report, we made one recommendation to SIPC to take an 
additional step to ensure that investors had access to information and 
guidance that would help them protect themselves against fraud and 
unauthorized trading. Specifically, we recommended that SIPC revise its 
brochure to provide links to informative pages on relevant Web sites. 
In responding to our recommendation, SIPC provided a reference in its 
brochure to the SIPC Web site, which has been updated to provide links 
to the Web pages it cites. This approach addresses the intent of our 

SIPC Has Taken Steps to Address SEC's 2003 Recommendations:

In January 2003, SEC completed an examination assessing SIPC's policies 
and procedures for liquidating failed securities firms. The examination 
identified several areas that needed improving and made recommendations 
to that effort. As of July 2004, SEC staff were following up with SIPC 
to determine whether the actions it had taken adequately addressed the 
recommendations. SEC representatives said their preliminary findings 
indicated that SIPC had begun to take steps to address SEC's 2003 

SEC found that SIPC should continue to review the information it 
provides to investors about its policies and practices. For example, 
SEC found that some statements in SIPC's brochure and on its Web site 
might overstate the extent of SIPC coverage and mislead investors. In 
response, SIPC has included in its new brochure statements clarifying 
the extent of SIPC coverage. Further, SIPC has undertaken other 
investor education initiatives to inform the public of its mission and 
the protection offered under SIPA and to explain SIPC's role in 
protecting customers. These initiatives include, among others, radio 
and television public service announcements to publicize the extent of 
protection and a training program on SIPC and proceedings for a 
securities firm liquidation that was presented to the District of 
Columbia Bar Association.

SEC found that there was insufficient guidance for SIPC personnel and 
trustees to follow when determining whether claimants had established 
valid unauthorized trading claims, one of the principle sources of 
investor complaints. As recommended, SIPC adopted written guidance in 
its Trustee Guide for reviewing unauthorized trading claims.

SEC also found that SIPC had inadequate controls over the fees and 
expenses awarded to trustees and their counsel. To address SEC's 
concern, SIPC is in the process of enhancing its controls for reviewing 
and assessing fees. First, it has updated the Trustee Guide to require 
trustees and counsel in SIPC cases to submit quarterly invoices and 
arrange billing records into project categories. In addition, SIPC has 
implemented procedures requiring SIPC personnel to document discussions 
with trustees and counsel regarding fee applications and to note any 
differences in the amounts requested and the amounts recommended for 

In addition, SEC found that SIPC lacked a retention policy for records 
generated in liquidations with an outside trustee. In response to SEC's 
recommendation, SIPC updated its Trustee Guide to include a requirement 
that outside trustees retain records of liquidation proceedings for 5 
years from the date the proceeding closes.

Two Insurers Underwrite Excess SIPC Policies:

In 2003, we reported that three of the four major insurance companies 
that underwrite excess SIPC policies would stop offering this product 
that year. Although no claims had been paid since the coverage was 
first offered in the 1970s and many had viewed the coverage as a 
marketing or advertising cost, some securities firms felt that excess 
SIPC coverage policies increased investor confidence in the securities 
firms. As a result of the three insurers leaving the market, many of 
the securities firms that offered excess SIPC coverage began exploring 
several options, including letting the coverage expire, purchasing 
coverage from the remaining underwriter--Lloyd's of London--or creating 
a "captive" insurance company to provide the coverage.[Footnote 7] 
Since that time, several large clearing and carrying securities firms 
that are NASD members have purchased excess SIPC coverage from Lloyd's. 
In addition, in December 2003 a consortium of 14 NYSE member firms 
organized and capitalized CAPCO, an insurance company licensed in the 
state of New York. According to CAPCO's December 2003 press release, 
the excess SIPC coverage offered by CAPCO will be similar to the excess 
SIPC coverage previously available from the domestic insurers.

The policies underwritten by the two insurers differ in two areas. In 
addition to a cap on the amount of coverage per customer, one insurer 
capped the overall exposure--one policy we reviewed established an 
aggregate cap of $250 million--regardless of the total amount of 
customer claims. The other insurer did not set any specific dollar 
limits. The two insurers also had different customer bases that would 
be eligible for protection. Like SIPC coverage, which excludes certain 
customers such as officers and directors of the failed securities firm, 
one insurer also excluded these customers. Conversely, the other 
insurer extended coverage to officers and directors of the failed 
securities firm as long as they were not involved with any fraud that 
had contributed to the securities firm's demise.

Agency Comments:

We provided a copy of the draft report to SEC and SIPC for comment. SEC 
and SIPC generally agreed with the contents of our report and provided 
us with written comments, which are reprinted in enclosures I and II, 
respectively. In addition, both SEC and SIPC provided us with technical 
comments, which we incorporated into this report where appropriate.

As agreed with your offices, unless you publicly release its contents 
earlier, we plan no further distribution of this report until 30 days 
from its issue date. At that time, we will send copies of this report 
to the Chairman, House Committee on Energy and Commerce; the Chairman, 
House Committee on Financial Services; and the Chairman, Subcommittee 
on Capital Markets, Insurance and Government Sponsored Enterprises, 
House Committee on Financial Services. We will also send copies to the 
Chairman of SEC and the Chairman of SIPC and make copies available to 
others upon request. In addition, the report will be available at no 
charge on the GAO Web site at

Please call me or Karen Tremba, Assistant Director, at (202) 512-8678 
if you or your staff have any questions concerning this report. Nancy 
Eibeck also contributed to this report.

Signed by: 

Orice M. Williams:

Acting Director, Financial Markets and Community Investment:


Comments from the Securities and Exchange Commission:



July 7, 2004:

Orice M. Williams:
Acting Director, Financial Markets and Community Investment:
General Accounting Office: 
Washington, DC 20548:

Dear Ms. Williams:

Thank you for the opportunity to comment on the General Accounting 
Office's draft report entitled Follow-Up on GAO Recommendations 
Concerning the Securities Investor Protection Corporation ("SIPC"). 
Subject to our technical comments provided to your staff by telephone, 
we generally agree with the description in the report of the SEC's 
actions to enhance its oversight of SIPC and to educate investors about 
SIPC and how to avoid investment fraud. We appreciate the efforts of 
your staff in responding to our comments.


Signed by: 

Annette L. Nazareth: 

[End of section]

Comments from the Securities Investor Protection Corporation:

WASHINGTON, D. C. 20005-2215: 
(202) 371-8300	
FAX (202) 371-6728 

July 6, 2004:


Orice M. Williams:
Acting Director, Financial Markets and Community Investment:
U. S. General Accounting Office 441 G Street, N. W.: 
Washington, D. C. 20548:

RE: Follow-Up on GAO Recommendations Concerning the Securities Investor 
Protection Corporation "SIPC"):

Dear Ms. Williams:

On behalf of SIPC's Chairman and its Board of Directors, thank you for 
the opportunity to comment on the draft of the follow-up on the General 
Accounting Office's Recommendations concerning SIPC.

SIPC is pleased to note that the GAO has concluded that SIPC has fully 
responded to the GAO's recommendations as contained in its July 11, 
2003 report on matters related to SIPC. With respect to the 
recommendations of the Securities and Exchange Commission that are 
referenced in the follow-up, please be assured that we will continue to 
work with the Commission to resolve any remaining concerns that the 
Commission may have.

Enclosed herewith are some minor technical comments on the follow-up. 
We appreciate the courtesies that you and your associates have extended 
to SIPC. If there is any other information that we can provide, please 
let me know.

Very truly yours,

Signed by: 

Stephen P. Harbeck:


[End of section]



[1] U.S. General Accounting Office, Securities Investor Protection: 
Steps Needed to Better Disclose SIPC Policies to Investors, GAO-01-653 
(Washington, D.C.: May 25, 2001). 

[2] U.S. General Accounting Office, Securities Investor Protection: 
Update on Matters Related to the Securities Investor Protection 
Corporation, GAO-03-811 (Washington, D.C.: July 11, 2003).

[3] A trade is considered as unauthorized when the securities firm buys 
or sells securities from a customer's account without approval. 

[4] SIPA generally defines net equity as the value of cash or 
securities in a customer's account as of the filing date, less any 
money owed to the firm, plus any indebtedness the customer has paid 
back with the trustee's approval within 60 days after notice of the 
liquidation proceeding was published. The filing date typically is the 
date that SIPC applies to a federal district court for any order 
initiating proceedings. 

[5] For a copy of SIPC's brochure, see

[6] The Pueblo Public Documents Distribution Center is a branch of the 
Superintendent of Documents, Government Printing Office. 

[7] A captive insurance company is a type of self-insurance whereby an 
insurance company insures all or part of the risks of its parent. This 
company is created when a business or a group of businesses form a 
corporation to insure or reinsure their own risk.