Thomas Cirignano has been saving money in CDs for the past 40 years — which means he’s had to make some adjustments to his plan along the way.
In the 1980s, when CD interest rates averaged about 13%, Cirignano opened an IRA which he funded partially with a series of long-term CDs. Cirignano made his living running his family’s auto repair business, which meant he was responsible for his own retirement plan. At that time, he contributed up to the $2,000 limit to his IRA annually.
But CD rates have fluctuated a lot in the 40 years since. Cirignano has had to adjust his strategy over time, withdrawing money from those long-term CDs to reinvest in the stock market or in a different CD with a much higher rate. And withdrawing from a CD also means paying a penalty.
If Cirignano found a bank with a much better rate, he would pay the withdrawal penalty and move his money to get a better return in the long run. But he always did the math to make sure the withdrawal fee was worth it. And sometimes, it was.
“If interest rates were very low, I wouldn’t tie my money up for a long time hoping that they would go back up again,” he says. “Sometimes, it makes sense to pay an early withdrawal penalty and reinvest.”
Cirignano’s strategy isn’t right for everyone, and what worked in past decades doesn’t necessarily make for the best plan now. In fact, experts we’ve spoken to at NextAdvisor recommend hands-off investing more focused on low-cost mutual or index funds.
Nevertheless, there’s a lot that CD holders can learn from Cirignano’s willingness to take on a withdrawal penalty when necessary.
Here’s what to know about when it makes sense to pay the fee.
What Is a CD Early Withdrawal Penalty?
A certificate of deposit (CD) is a type of account that offers a fixed rate of return on the money you deposit upon opening, as long as you leave the deposit in the account for a given term, or period of time.
CDs can be useful for saving toward a specific goal with a predetermined timeline, such as a down payment on a home or an upcoming trip. Locking money in an account like a CD is helpful to keep you from spending the money on other things. Plus, even today’s lower-earning CDs can be a valuable piece of your retirement plan: as you near retirement age, moving some riskier investments into CDs can be a safer place to put your money.
The downside of CDs is the lack of flexibility.
If you need to take the money out of your account before it reaches maturity for any reason, you’ll pay an early withdrawal penalty. These fees are typically worth a portion of your interest, and they can get costly, depending on the size of your deposit and the interest rate.
Usually, the penalty is equal to a few weeks or months of interest. But it can get more expensive for you depending on how early you make the withdrawal and how big your deposit is.
For example, say your bank’s early withdrawal penalty is equal to 180 days of interest, but you want to withdraw after just 100 days. You’ll pay not only all the interest you’ve earned so far, but also the amount you would have earned over 80 additional days, and ultimately lose money.
You can check the early withdrawal penalty before signing up for any CD by reading the account terms. The fee will vary based on the CD term and bank.
Should You Pay the Withdrawal Penalty?
In general, it’s best to have a goal for the money you’re locking away in a CD. Before opening a CD, make sure the term aligns with how much money you’ll need and when you’ll need it. That way, you’ll reach your goals without paying the withdrawal penalty if you need the money sooner.
But there are cases in which you might need to access the money early.
Before you take your money out of a CD and pay the withdrawal penalty, shop around, like Cirignano did when saving money for the long term. Like any new CD, you should look for account details like minimum deposit requirement, term length, fees, and more.
In some cases, withdrawing money from your CD is not just about earning a better return. Sometimes, Cirignano says he would pay a withdrawal penalty so he could take his money out of CDs to cover emergencies.
You can avoid this by making sure you have an emergency fund with three to six months of living expenses. That money can be used toward medical bills or to cover expenses if you face a job loss.
When it Makes Sense to Pay the Withdrawal Penalty
When you open a CD, “you are agreeing to a term,” says Kerry O’Brien, CFP and founder of BeingFIT Financial, a financial planning firm in Massachusetts. “But you can still get your money [if you need to withdraw]. You just would sacrifice a little bit of interest,” she says.
Sometimes it makes sense to do so. Like Cirignano, you may find a better CD rate or investment option that yields a better return, even with the withdrawal penalty.
Remember to do the math to see if the fee is worth the bigger return. If the new balance, including expected interest earned, isn’t more than your initial CD plus the withdrawal fee, it might not be worth it.
Here’s an example: Let’s say you open an 18-month CD with a 3% APY and put down a $1,000 deposit. Four months into the term, you find another CD with a better 4.35% rate. To withdraw from the initial CD early, you’ll need to pay the equivalent of four months of interest, or an estimated $10.04.
|Penalty||4 months’ interest|
|Interest Earned at Early Withdrawal||$10.04|
|Balance at Withdrawal||$1,000|
Because you’ve had the CD for only four months, you’ll break even on the payment. While you’ll lose the interest you made on the old account (and time spent earning it), you decide the higher rate on the new CD is worth paying the penalty.
You can also look at it this way: the new 4.35% APY CD and the same $1,000 deposit will earn an estimated $1,067 total when the CD reaches maturity. If you kept the CD with a 3% APY, you’d have earned just $1,045 total. Even when accounting for the penalty, the new CD with the higher rate is still worth it.
|Initial 18-Month CD||New 18-Month CD|
|Balance at Withdrawal||$1,045||$1,067 (minus $10 penalty previously paid)|
In this case, it makes sense to open a new CD and pay the penalty — as long as you’re willing to do the work involved. Another thing to consider is whether the extra few dollars in interest is worth the time you’ll spend moving your money from one account to another.
As another example, let’s say you started out with the same 18-month CD with a 3% interest rate and you deposit $1,000. But you decide to withdraw for a new CD earning 3.50%. If you withdraw from your CD to take advantage of the higher rate, you’ll still pay a withdrawal fee of $10.04. But the new CD only earns an estimated $1,053 over the term, whereas the initial CD earned $1,045. If you include the $10 withdrawal penalty you’ll have to pay, the new CD won’t be worth it.
How to Avoid Withdrawal Penalties
Even if there are instances where paying an early withdrawal penalty may be worth the price, the right CD strategy can help avoid paying altogether.
First, make sure you have an emergency fund established in an easy-to-access place like a high-yield savings account before adding additional savings to a CD. That way you can avoid having to withdraw for unexpected expenses.
You can also choose to stick to CD options that may be more flexible, like a CD ladder. You can spread out your savings deposit across several CDs that mature at different times, so at least part of your balance is available on a rolling basis.
If you’re worried about needing the money from your CD and paying a fine, a no-penalty CD is another flexible option to earn a return without paying a fee. If you need to withdraw money, you won’t have to pay a penalty, but you may forego the upcoming interest or part of your principal. No-penalty CDs usually only allow one withdrawal and you may not get as good of an interest rate as some traditional CDs with the same term.
In general, it’s wise to avoid fees on deposit accounts like CDs whenever possible. But there are always exceptions, whether it’s an emergency expense or you’re willing to do the work to track rates, like Cirignano’s plan to maximize his return whenever possible.
Sometimes, paying the withdrawal fee for a CD is worth it if you’re guaranteed to earn more on the new CD you’re opening. But always do the math before you commit to paying the penalty. Always check your account terms and withdrawal fees before opening a CD to make sure your interest rates align with your goals before opening.
If you’re looking to take advantage of today’s rising interest rates with a new savings account or CD, here are some more resources to help you get started:
- The Best CD Rates Right Now: Earn More Than 4.00% APY
- This Is the Best CD Saving Strategy for 2023, According to Experts
- CD Rates Benefit When the Fed Raises Rates, According to These Expert Predictions
- Short-Term CD Ladders Can Help You Take Advantage of Rising Interest Rates. These Are the Strategies Experts Recommend
- How High Will Savings Account Rates Go This Year? We Did the Math And Asked the Experts