When you buy a CD, make sure you read the fine print. There may be early withdrawal penalties, and the bank may even refuse to allow early withdrawals. Learn about the details here.
Q: Dear Dr. Don,
On a recent CD I obtained, the bank inserted language that it does not have to permit an early withdrawal from this account. Can the bank refuse early withdrawal if I needed the money?
-- Arnold Accounts
A: Dear Arnold,
It's like the prepayment penalty on a mortgage. If a homeowner accepts a prepayment penalty clause in their mortgage, he or she should be able to get a better rate on the loan, because the bank is getting compensated for the interest rate risk if the homeowner refinances the loan.
The bank has entered into a term deposit agreement with you. Aside from financial hardship, the most likely reason you would withdraw the funds is to reinvest them at a higher rate at another financial institution.
The bank would then have to find another depositor to invest and it would have to pay the new higher rates to attract that deposit.
By agreeing to the deposit term, with no early withdrawals allowed, you should have gotten a slightly higher CD rate because you accepted the interest rate risk.
Some banks offer loans that are collateralized by a CD held at that bank. If you did find yourself in a financial emergency, that could be a way of finessing the issue. Ask the bank whether it enforces the "no early withdrawal" provision and if the bank offers CD loans.
