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Important Update: Changes in FDIC Deposit Insurance Coverage

The FDIC deposit insurance rules have undergone a series of changes starting in the fall of 2008. As a result, certain previously published information related to FDIC insurance coverage may not reflect the current rules. For details about the changes, visit Changes in FDIC Deposit Insurance Coverage. For more information about FDIC insurance, go to www.fdic.gov/deposit/deposits/index.html or call toll-free 1-877-ASK-FDIC (1-877-275-3342). For the hearing-impaired, the number is 1-800-925-4618.

Summer 2005

A Shopper's Guide to Bank Products and Services

Bank CDs: New Options, More Flexibility for Stashing Your Cash

Bank CDs—short for "certificates of deposit"—have been family favorites for generations to safely invest money for short or long periods. With the traditional FDIC-insured CD, you agree to keep the money in an account for a few weeks to several years. In return, the bank agrees to pay you a higher interest rate than you would receive from a checking or savings account. If you need to withdraw the money before the CD matures, you will pay a penalty.

Questions to Ask Before Purchasing a CD

What is the interest rate and how is it calculated? Banking institutions are required to express the interest earned on a CD as its Annual Percentage Yield (APY) to help consumers comparison shop. Make sure you understand the amount you must invest to get the quoted APY. If the CD has terms, such "bump-up" provisions that enable you to switch to a higher rate or "step-up" features that can automatically increase the rate, be sure to know how the interest rate can change and any fees that may be added. Remember that a CD with more flexible terms than a traditional, fixed-rate CD may be offered at a lower interest rate.

When does the CD mature? What is the early withdrawal penalty? Many people focus so much on the interest rate they fail to think about how long their money must be invested. If they need access to their funds before the maturity date, with most CDs they face a penalty for early withdrawal. Be sure to ask how much the institution will charge.

Will the CD automatically renew at maturity if I don't withdraw the money? If so, how will that be handled? Banks often will automatically renew a maturing CD if the depositor doesn't withdraw the money or set up a new account within a week or so after the CD matures. If that's the case, find out if the automatic renewals will be at the "old" interest rate or some current rate. If market rates have increased, it is not to your benefit to renew at the old rate.

But even the old CD is changing. "What's new is that many banks are tweaking the traditional CD to offer a more flexible product," said James Williams, an FDIC Consumer Affairs Specialist. "They are allowing depositors to take advantage of an increase in the interest rate."
Williams notes three common variations:

  • "Bump-up" CDs, which enable a depositor to choose to switch mid-term to a higher interest rate if market rates go up;

  • "Step-up CDs" that allow for periodic, pre-determined increases in interest rates; and

  • "Liquid" CDs, which have fixed interest rates but permit the depositor to withdraw a portion of the original deposit early without paying a penalty.
  • How can you choose a CD wisely, especially if you're considering a nontraditional kind? First, think about how much money you're willing to keep untouched at the bank and for how long. Remember that if you have to withdraw the funds before maturity, you will pay a penalty, usually a loss of some or all of the interest you've earned—and perhaps even some of your principal (the amount you deposited).

    Next, shop around for the highest interest rates for the CD amount and time period you're considering. In general, the larger the deposit and the longer the maturity, the more interest you can expect to earn.

    When you shop, check with at least three or four CD providers, including institutions you already deal with and trust. Find out about interest rates, minimum deposit requirements, maturity dates, and early withdrawal provisions. Remember that these features can vary widely from bank to bank.

    Try to understand the key terms and conditions of the CD and what they could mean for you. "An account that allows you to benefit from rising interest rates generally will cost you in terms of a lower initial interest rate compared to a traditional, fixed-rate CD," said Williams. "You should weigh whether the lower initial rate is worth the flexibility. After all, you're betting that the interest rates will rise and that the new rates will make up the difference." Williams also noted if interest rates go down in the future, "these new features you 'paid for' generally will do you no good."

    Also be aware that there are other types of nontraditional CDs. For example, some CDs pay interest rates based on unusual indexes, such as those with the interest rate tied to the ups and downs in the stock market. (Stock-indexed CDs typically guarantee the return of your deposit but your interest earnings could be cut or eliminated if the stock market drops.)

    In addition, sales people known as "deposit brokers" can sometimes negotiate higher interest rates on CDs from FDIC-insured institutions. However, broker-sold CDs can be complex and may carry more risks than traditional CDs sold directly by banks. These may or may not be good deals, depending on the offer and your personal investment goals.

    "Deposit brokers aren't subject to the same disclosure requirements and other regulations as banks, so be sure you're dealing with a reputable broker who provides a detailed written description of any proposed investment," added Williams. "We've heard some reports of unscrupulous brokers using offers of high interest rates on bank CDs to lure people into buying annuities or other non-deposit investment products that are not FDIC-insured and may carry risks or other features that are not suitable for those individuals."

    For more about broker-sold CDs, see a special report in the Fall 2000 FDIC Consumer News at www.fdic.gov/consumers/consumer/news/cnfall00/BankCD.html.

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    Last Updated 5/17/2005

    communications@fdic.gov