CD early withdrawal can come at hefty cost
Investors in certificates of deposit who dive into that CD cookie jar early face hefty fines that eat away at their principal.
Bankrate's 2014 CD Early Withdrawal Penalty Survey found that CD savers may pay handsomely for snacking too soon on their investment.
And it's not just interest earned that is at stake. Of the institutions surveyed, 90 percent will confiscate some of the original principal put into the CD, if the accrued interest is less than the required penalty.
That's counter to the very reason for investing in CDs in the first place, says Greg McBride, CFA, Bankrate's chief financial analyst.
CD early withdrawal penalties vary
|Penalties on 2-year CDs: 6 months' interest||Yield (using national average yield): 0.37%||Penalty on $10,000, if withdrawn after 1 year: $18.48|
|Penalties on 2-year CDs: 12 months' interest||Yield (using national average yield): 0.37%||Penalty on $10,000, if withdrawn after 1 year: $37|
|Penalties on 2-year CDs: $25, plus 3% of amount withdrawn||Yield (using national average yield): 0.37%||Penalty on $10,000, if withdrawn after 1 year: $325|
|Penalties on 2-year CDs: 3 months' interest||Yield (using national average yield): 0.37%||Penalty on $10,000, if withdrawn after 1 year: $9.24|
|Penalties on 2-year CDs: 2% of amount withdrawn but not more than total interest earned||Yield (using national average yield): 0.37%||Penalty on $10,000, if withdrawn after 1 year: $37|
|Penalties on 2-year CDs: 9 months' interest||Yield (using national average yield): 0.37%||Penalty on $10,000, if withdrawn after 1 year: $27.74|
No 2 banks alike when it comes to CDs
|Institution: Gateway Bank||Market: San Francisco||Yield on two-year CD: 0.1%||Penalty: 120 days' interest||Penalty on $10,000: $3.33|
|Institution: Salem Five||Market: Boston||Yield on two-year CD: 0.4%||Penalty: 4% of amount withdrawn||Penalty on $10,000: $400|
"Investors look to CDs more for a return of their money than a return on their money, and early withdrawal penalties threaten the return of the investment they're trying to protect," he says.
Do the math
The penalties that banks and credit unions charge for withdrawing money early from a CD vary widely.
For instance, a person who invests $10,000 in a two-year CD but then decides to pull the money out after only a year could pay as little as $3.33 at Gateway Bank in San Francisco, or as much as $400 at Salem Five in Boston, according to Bankrate's survey.
"The first step is to pull out the calculator" when deciding whether to pull money out of a CD before it's matured, says Donald Cummings, founder of Blue Haven Capital in Geneva, Illinois. He says it's important to remove emotion from the decision and consider every cost angle.
The most common penalty for CDs with maturities of less than a year continues to be three months' interest, the same as what was found in Bankrate's 2012 survey. The 2012 survey was the last time Bankrate studied CD early withdrawal penalties
The most common penalty for one-year and two-year CDs was six months' interest, also the same as the last survey. For five-year CDs, both six months' interest and 12 months' interest penalties showed up most often in the survey.
Dipping into principal
Dan Geller, executive vice president of Market Rates Insight, studies CDs and CD rates and says early withdrawal fees have become more of a hot topic in recent years, with bankers gearing up for an eventual rise in interest rates as the Federal Reserve unwinds its policy of quantitative easing, or QE, that jump-started the economy.
"They are trying to entice consumers to get in now," Geller says.
CDs are theoretically built with higher interest rates than more liquid products because a consumer is agreeing to park his or her money for a set period of time. Banks use money from consumers' CD holdings to finance loans, so their goal is to keep consumers from pulling out their money early.
A different investing environment
But institutions have been running into a problem in recent years, Geller says. Since many CD withdrawal penalties are tied to the CD's yield and since CD yields are in the toilet, the penalty doesn't have the same significance it used to have.
"Customers are saying, 'I'll sign up for a three-year CD, but because the early withdrawal penalties are so low, if I find a better deal, I'll just jump ship,'" Geller says.
Instead, some banks "are taking part of the principal now to make it more, I don't want to say punitive, but more meaningful. The whole idea of the penalty is to serve as a deterrent to early withdrawal," Geller says.