With the Federal Reserve seemingly ready to kick off a new era of rising interest rates at its meeting this week, savvy savers will want to consider CD exit strategies with new gravitas.
That’s because the Fed expects to raise rates not once, but methodically over the next several years.
That means the smartest savers will be looking to secure the highest possible yield on long-term certificates of deposit from banks and credit unions that charge a relatively small early-withdrawal penalty, making it cheap to cash out and move on if future rates far outstrip current returns.
To help you make the right choices, we’ve taken a careful look at the early-withdrawal penalties imposed by the top-paying national banks on long-term CDs, as well as what to expect from credit unions and community banks that offer the best long-term rates.
You may be surprised by the significant difference between the penalties at Ally and Salem Five — the most lenient and strictest banks we found.
There’s even a quick-and-dirty calculation that can help you figure out the approximate APY for any CD cashed in early, once you know its early-withdrawal penalty.
The Best and Worst Penalties from Top-Paying National Banks
Early-withdrawal penalties vary widely. To let you have your funds back before maturity, some banks charge as little as 3 to 6 months’ interest, while others take back as much as 2 years’ interest.
Even worse, some charge a flat fee or percentage, leaving you at risk of losing some of your principal should you exit the CD early — a scenario to be avoided at all costs.
For our CD Rates Leaderboard, we monitor the best nationally available yields across seven terms on a daily basis, tracking not just the top several offers that appear on the Leaderboard but full rankings that go 20 to 25 banks deep for each term.
Defining long-term CDs as those with maturities of three years or longer, 33 national banks currently populate our rankings for 36-, 48- and 60-month CDs.
How do these top-paying banks for long-term certificates stack up? Here are the details we dug up.
As you can see, one bank stands alone at the head of the class. Ally Bank is the only national bank in our long-term CD rankings that assesses a penalty of less than 6 months, with its penalty on 3-year certificates being a mere 90 days.
After crowning Ally as the winner of this contest, we grant a runners-up trophy to a group of 14 banks (in blue) that all charge 6 months’ interest for any of the terms in focus here.
A penalty of 6 months proves to be a significant threshold.
As we found out in our spring analysis of resulting APYs after withdrawing early, banks imposing penalties of 6 months or less typically break even against shorter-term CDs after about 14 to 18 months, and then outdo Leaderboard returns for any period they’re held after the tipping point.
On the flip side, a penalty above 6 months means you’re better off buying a shorter-term CD because the penalty would eat away any gain you might have reaped from investing long-term.
So who are the worst?
All of the banks appearing in red are to be avoided if you think there’s any chance you’ll want to cash in your CD before it matures.
At the stiffest end of the penalty spectrum is Salem Five Bank (and its online portal Salem Five Direct). With its penalty calculated as 4% of the CD’s balance, this can mean a 2-year interest penalty on a 4-year CD.
E-Loan’s penalty of 24 months’ interest on its 5-year CD is equally onerous but is less draconian for its 3- and 4-year CDs.
Also noteworthy is Silvergate Bank. It doesn’t offer a 4- or 5-year CD, but its penalty of 18 months’ interest on a 3-year CD is worst in class.
How Do Credit Unions and Community Banks Compare?
Our readers know that national banks are only part of the story when it comes to finding the highest CD yields in the country. In all terms, savers somewhere can outdo the top national return with a credit union or community bank certificate.
But how do early-withdrawal penalties compare from local and regional institutions?
In our constantly updated roundup of the top-paying CDs from credit unions and community banks, 50 institutions currently offer a long-term CD that outperforms the national leaders.
Since many of these serve very small markets, I boiled the 50 down to a manageable 14 that serve the largest number of people (populations of at least 2 million), and what I found was interesting.
Of the 14, a dozen assessed a reasonable 6-month penalty, with just two outliers charging 12 months’ interest.
This seems to indicate that fewer credit unions are charging exorbitant early-withdrawal penalties and that most of them keep the penalty at a level that makes cashing out early a reasonable economic choice if rates rise sufficiently.
Once again, it makes the point you hear often from us: If you can qualify for any of these top-paying credit union or community bank CDs, they are well worth your effort.
Completing the Math: How Penalties Impact APY
Identifying early-withdrawal penalties is a critical first step and enables you to apply the rule of thumb that penalties of 6 months or less is worth looking at more closely.
But the yield matters, too.
At Ally, for instance, you’ll find reasonable penalties but rates that are not at the very top of the rankings.
How does one compare American Bank’s 60-month yield of 2.27% APY with a 6-month penalty vs. Ally’s return of 2.00% but with just a 5-month penalty?
It sounds complicated, but whenever you know the APY and early-withdrawal penalty in months, simple arithmetic can give you an apples-to-apples comparison for any estimated duration of holding two CDs.
Start with a prediction about when you will cash in the CD. For our example, let’s assume we’ll withdraw after 24 months.
For the American Bank CD, the 6-month penalty means you’ll earn 0% on half a year and 2.27% APY on the other 18 months.
Multiply 2.27% by 18, which gives you 40.86%, and then divide that by 24, for the full number of months you hold the CD. That gives you an estimated actual yield of 1.70% APY.
Apply the same formula to Ally’s CD, with five months earning 0% and then 19 months earning 2.00%, and you get 38.00% divided by 24 months, for 1.58% APY.
In this example, you can see that despite Ally’s milder penalty, its lower yield means you’ll earn less than at American Bank.
You can do this for any number of CDs, for any predicted length of time.
When the Fed concludes its meeting on Wednesday, we’ll know if the forecasted era of rising rates has finally been launched.
But whether the Fed makes its first move next week or early in 2016, researching early-withdrawal penalties and how they’ll impact a certificate’s yield will be an invaluable arrow in the quiver of any savvy CD saver.