You put your money in a one year certificate of deposit. And for some reason you need to withdraw your money before the end of the year.
What is the penalty?
That depends on the fine print “agreement” you had with the bank.
These early withdrawal penalties (EWP) are pretty much unregulated. The banks can charge what they want.
Federal Reserve Regulation D says banks must impose a minimum penalty on CDs, but that “banks are free to impose greater penalties by contract with the depositor.”
They can even increase the penalties during the one year term of your CD. And in some cases they do.
Consumer advocate Ralph Nader wants federal and state regulators to limit the amount banks can penalize customers.
“These are unregulated confiscations,” Nader said. “I know of one case where a one year CD for $400,000, withdrawn after three or four weeks, was penalized for over $12,000, a sum that was increasing by the day. The saver objected and got his money back. How many billions of dollars seized from millions of savers yearly is unknown. Shame on the Federal Reserve and the Federal Deposit Insurance Corporation. Congress and state legislatures should investigate and act.”
The Connecticut Banking Commissioner, Jorge Perez, recently surveyed banks in Connecticut and found that the early withdrawal penalties vary widely.
One bank, the Guilford Savings Bank, has a penalty of “5 percent of the amount withdrawn.”
The bigger banks have the more typical penalty. Citibank for example, told the Connecticut Banking Commissioner that “in all markets, a 90-day simple interest penalty will apply for terms of one year or less, and a 180-day simple interest penalty will apply for terms greater than one year.”
Ken Tumin is founder and editor of the DepositAccounts.com.
“I know many banks that allow EWPs to eat into the principal if the CD is closed too soon after opening,” Tumin said. “For example, if the early withdrawal penalty is 12 months of interest and the CD is closed 6 months after opening, all 6 months of accrued interest would be lost and some of the principal would be lost that would equal 6 months of interest.”
Don’t some banks and credit unions limit the penalty to just interest accrued?
“There are a few banks and credit unions that do limit EWPs to no more than the accrued interest,” Tumin said. “For example, the EWP might be 6 months of interest or all interest, whichever is less.”
Tumin has published a survey of early withdrawal penalties in 2019 that included data from 7,562 CDs that were offered by 1,019 banks and credit unions.
“The most common form of EWP consists of a certain number of days’ interest on the CD,” Tumin wrote. “One example is 180 days’ interest on a 3 year CD. The penalty here is very simple – removing money from the CD before maturity costs the consumer 180 days’ interest on the principal. Not all EWPs are that simple, but the large majority are. For this study, only CDs with this simple type of EWP were included.”
“Our study indicated that the average EWPs for all CD maturities – 6 months to 5 years – increased from 2016 to 2019. The average EWPs increased the most for the 5-year CDs, rising from 242 days in 2016 to 255 days in 2019 (a gain of 5.4%). The EWP increases were generally smaller for the shorter maturities. The EWP of the 1 Year CD had the smallest increase in the last three years, rising from 119 days to 120 days – a gain of 0.8%.”
The survey found at the high end, banks were charging penalties of 181 days of interest on a one year CD and 540 days of interest on a five year CD.
Tumin has also documented cases of credit unions increasing early withdrawal penalties on existing CDs.
“Typically, EWPs are only increased on new CDs or at the time a CD is renewed,” Tumin said. “We have come across two cases in which credit unions increased the EWPs on existing CDs. In at least one case, the National Credit Union Administration (NCUA) ruled in favor of the credit union.”
Do we know how much banks are making a year on early withdrawal penalties?
“I’m not aware of anyone compiling how much banks make on EWPs,” Tumin said. “I think EWPs may be included as part of total fees that banks report.”
Are there any consumer groups working on the issue?
“I’m not aware of any consumer groups that advocate on regulating EWPs,” Tumin said.
Why don’t the state banking regulators step in?
“Considering that federally-chartered banks comprise 70 percent of the market share in Connecticut, it makes sense that to have the greatest impact on consumer protection and education changes should be made at the federal level since federal law will apply to both federal and state charter financial institutions,” said Matt Smith, a spokesman for the Connecticut Banking Department.