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CD rates
I just ran across a great little tool over at BankDeals… It’s a calculator that will help you decide whether or not you should break an older CD whose rate is no longer competitive.
Here’s some background as to why I’m interested in this topic: Back in January of 2004 we ran across a great deal on 5 year CDs at Pentagon Federal Credit Union… PenFed was paying 5.25% APY at a time when interest rates were very near their historical lows. And while five years is a long time, I ran the numbers and found that, even with the 6 month interest penalty for breaking the CDs early, we’d still be ahead of shorter term PenFed CDs, and way ahead of the then-current market rates over pretty much any timeframe. In order to increase flexibility, we broke the money into five equal-sized CDs such that we could pull all, or just a part of our money back out of the CDs in the future.
Fast forward a bit under three years, and interest rates for various savings instruments are approaching, if not surpassing, the yield of these CDs. While we don’t really need this money for anything right now, we’re also not willing to take much (if any) risk with it. But we also want to put make sure that these funds are working for us in the best possible way. So…
That brings us to the heart of the matter… Should we cash in some or all of these CDs and put the funds to work elsewhere? When I plugged the numbers into the handy-dandy CD decision tool, I learned that we should just sit tight. In fact, we’d have to be able to get in the neighborhood of 6.5% APY before breaking even if we were to pull our money out of these CDs.
Sitting tight is admittedly a difficult thing to do when seemingly more competitive rates are available. However, I also have to keep in mind that we were way ahead of the curve over the past couple of years, so even if we’re at (or slightly below) current market rates, we’re still coming out ahead over the entire timeframe. And if rates spike in the coming months, I can always revisit this at that point in time.
Taxes… That’s a good point. I would guess (but am not sure) that the six month interest penalty would effectively remove those interest dollars from your tax return. This would narrow the gap for sure, but I don’t think it would be enough to make breaking the CDs worthwhile in this case. And as Frugal Frugalson pointed out, we were so far ahead of the curve early in the game that we’re ahead of the game even if we end up lagging current yields by a small amount from here on out.
Taxes?
Can you write off the 6 month interest penalty on your taxes or not?
It could make a huge difference in the equation.
Although Penfed will probably have an attractive offer for their “annual CD special” in January, I think we’ve already seen the peak for CD rates.
Let’s face it, 5.25% APY isn’t a bad rate today and it was an excellent deal in January 2004. Considering that an Ing Direct savings account had a 2% APY at the time, I say that you’re ahead of the game!
I do not expect to see interest rates spike again in the near future; my guess is that rates start dropping again in the near future.