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CD investors not safe from fee hikes

By Claes Bell, CFA · Bankrate.com
Monday, May 9, 2011
Posted: 11 am ET

By now, the nearly industry-wide rise in bank fees is well documented. Millions of checking account holders who had previously considered free checking a given are being asked to meet certain account criteria or pay a monthly account maintenance fee.

But less attention has been paid to rising fees for CD investors. David Lazarus of the Los Angeles Times has an interesting article on how major banks are raising early withdrawal penalties to levels high enough to attack CDs' principal if investors pull out early:

In the past, BofA would charge 90 days' worth of interest for early withdrawals from a CD good for 12 months or less. In other words, a $10,000, 12-month CD with an annual yield of 0.3 percent would entail an early-withdrawal penalty of about $7 if you took out the entire amount.

Now BofA is charging a flat $25 plus 1 percent of the amount withdrawn for CDs with terms under 12 months and 3 percent for longer terms.

That means the early-withdrawal penalty for that same $10,000, 12-month CD now runs $125 -- a nearly 1,700 percent increase. The penalty for a five-year, $10,000 CD is $325 -- a roughly 1,600 percent increase.

Since those penalties are significantly above what BofA is offering in interest for those maturities, investors stand to lose out on a good chunk of principal even if they hold the CD for nearly the entire term before pulling out.

And BofA isn't the only bank imposing harsher penalties for CD investors:

Similarly, Chase bank revamped its own early-withdrawal policy for CDs last year, introducing a $25 fee plus 3 percent of the amount withdrawn.

Lazarus says the new fee hikes by banks are a result of them being "motivated solely by greed." I think Lazarus is missing something here, though. The extent to which banks are motivated by greed doesn't appear to have changed drastically in the last couple of years, but they've waited until now to introduce draconian new fees on CD investors. So what has changed?

Heightened federal regulation and limitation on bank fees are no doubt a contributing factor. I spoke to Bert Ely last year about the cutbacks in free checking, and he likened bank fees (and profits) to a balloon: Squeeze them in one place and they'll just expand in another.

But I think the larger motivator may be banks are trying to lock CD investors' money in at rock-bottom CD rates now. That way, rates can rise, but banks' cost of funds, the money they pay to have cash on hand to lend out, will stay the same.

But if CD investors simply withdraw their money when CD rates rise, banks won't be able to enjoy that long-term cost of funds advantage. So banks are boosting withdrawal penalties to keep that from happening.

Why do you think Chase and BofA are raising early-withdrawal penalties? Is it regulation or positioning for higher rates in the future? Or is it some combination of the two?

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7 Comments
Claes Bell
May 11, 2011 at 11:34 am

Jay, that's a good point. Shopping around is nearly always a good way to avoid onerous new fees. M Parker, that's an interesting point, but you didn't see banks worrying about CD withdrawal penalties when rates were in long-term decline mode. I believe this is a sign banks are expecting rising CD rates in the near future.

Jay
May 11, 2011 at 11:31 am

Perhaps a better question is why would any consumer buy a CD at Chase or BofA? My savings acct with a community bank has a rate that is 3x that of a Chase CD with 100% liquidity.

M Parker
May 10, 2011 at 9:03 pm

A very interesting article. I read the one published by the LA Times as well. You pose a good question, and I would agree that there could be a combination factor involved. I do think they could be hurting with all of the credit card & checking regulation instituted by the government.

Playing devil's advocate, what IS there to stop a consumer from withdrawing the money at a later date, with minimal fees, for larger interest down the line? I think this is in part to also make sure that their customers are less likely to jump ship down the line, and a $125 fee vs $7 would make you think twice.

Ou
May 10, 2011 at 3:45 pm

Regulations lay the foundations for the destruction of the free market

If I was a bank and had all the regulations plus all the new ones I too would come up with ways to maintain my business

A free market would knock out those who got "greedy"

THAT IS A FACT

I DO NOT LIKE PAYING HIGHER FEES ANYMORE THAN YOU DO
BUT IF YOU WANT TO HAVE A FREE MARKET YOU HAVE TO VOTE IT INTO OFFICE

Claes Bell
May 10, 2011 at 1:36 pm

The problem with money from the Fed is that it's largely on a short-term basis. In contrast, banks get to hold on to money raised through offering CDs until the CD matures.

Venkata
May 10, 2011 at 12:24 pm

Why do banks need to stock up on money from the public when they can 'borrow' from the Fed for 0%?