CD Early Bailout Yes Or No

Ratesaver | Nov 12, 2022 | 187 posts since 2013

I just recently closed a cd early by about 2yrs or so... I opened a cd at another credit union for 4%. I still thought the withdrawal penalty was for 6mo. in. However to my supprise it was 12mo int . that amounted to 1,000.00 and I was shocked however I went ahead and did it anyway... The rate that I was getting was 1.70 yr... I know with the 5yr cd at 4% would cover it in time however my age is also imjportant because at my age maybe I would not have my knowledge losing slowly and would not keep up so I went ahead and did it anyway. Was I right

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Answers

Ally6770 | Nov 23, 2022 | 4,294 posts since 2010

Yesterday I called a credit union and asked for the actual dollar amount I would loose on my reg Cd, traditional IRA CD and 2 Roth CD's if I closed them as I could get a better interest rate now at another credit union and was going to figure out how long it would take to make up the loss. They told me the amount, then asked what I was going to get at the other institution. I told them and she said one moment please. She came back to the phone a few minutes later and offered me the same amount with NO PENALTY. Of course I am very happy. I asked if I could post the name of the credit union and she said no because it was an unadvertised benefit they were offering at the time but did not know long it would last. Just a note that it doesn't hurt to make a phone call and ask.

RickZ | Nov 12, 2022 | 218 posts since 2010

You increased your interest rate by 2.3% and it cost you 1.7%. It will take you a little less than 9 months to breakeven on a CD that had another two years to go on it. Putting aside whether a 4% 5-year is a good purchase now, the switch makes sense.

Don't forget that the $1,000 EWP generates an above-the-line tax deduction so it likely costs you considerably less than $1,000 (the EWP will show on line 2 of the 1099-INT that you get from the bank).

CDmanFL | Nov 12, 2022 | 286 posts since 2019

Rick,
Can you please expound on what you mean by an above the line tax deduction for the EWP?

MY2CENTSWORTH | Nov 13, 2022 | 436 posts since 2016

CDmanFL, I have done my own taxes all my life and have even taken some training when I was unemployed one year during tax season. I'm sure RickZ will be happy to answer your question as it pertains to "above the line tax deductions" possibly better than I, but what that means is that the deductions for any EWP is beneficial because they will reduce your AGI (adjusted gross income), which reduces the amount of taxes you owe. The EWP will be directly subtracted from your interest income which reduces your interest income so that the AGI decreases dollar for dollar prior to any other standard or itemized deductions that you may claim. I hope that helps.

Ltssharon | Nov 13, 2022 | 471 posts since 2020

That could really affect my decisions. Thankyou.

RickZ | Nov 13, 2022 | 218 posts since 2010

I’m an attorney not an accountant but I’ll do my best. As I understand it, there are essentially two types of deductions/adjustments: itemized deductions from Schedule A and so-called “above the line” adjustments to income from Schedule 1 which are listed on line 10 of the 1040. (There are two other below the line deductions but they’re not relevant here).

Itemized deductions are only of use if you itemize – so if you take the standard deduction then an itemized deduction is of no use to use to you. Adjustments to income on Schedule 1 can be used whether or not you itemize. I believe that the term above the line is used because adjustments to income lower your adjusted gross income and are listed above the line for AGI.

You list the amount of the penalty for early withdrawal of savings on line 18 of Schedule 1. Line 2 of your 1099-INT will give you that figure. Since it’s an adjustment to income you get to reduce your income by the amount of the EWP whether or not you itemize. I guess the thinking is that since the interest you earn is considered income it's only fair to consider the interest you lose through an EWP as an adjustment that lowers your income.

Ltssharon | Nov 13, 2022 | 471 posts since 2020

I agree with you regarding preparing for forgetfulness. Yes, putting your mind to rest about this is worthwhile. Recently I was at a seminar and the speaker suggested looking as far ahead as 10 years and making a 10 year ladder. Personally, that would take me to my expected end of life. I find that idea attractive.

CDsuckers | Nov 13, 2022 | 70 posts since 2022

That tax deduction for an EWP is only applicable if it's a taxable CD, not an IRA CD.

nored | Nov 23, 2022 | 32 posts since 2018

Does the tax deduction for EWP apply to a Traditional IRA CD? It seem that it would and not to a Roth CD. Please expand. Love the conversation! Very helpful. Thank you.

CDmanFL | Nov 13, 2022 | 286 posts since 2019

Thank you for the explanation. I’m breaking a bunch of CDs so the tax benefit of the EWP will really come in handy!

SouthernGirl | Nov 13, 2022 | 210 posts since 2022

CDmanFL,
Have you reviewed the Truth and Savings Disclosure at each financial institution to determine if it states the EWP is taken from dividends and not principal? There is a possibility that you can withdraw the dividends and close the CD with no EWP.

Ratesaver | Nov 13, 2022 | 187 posts since 2013

Thanks for all your answers as maybe I can sleep better with knowing I may be able to deduct it from my taxes adjusted Gross Income...

Ltssharon | Nov 23, 2022 | 471 posts since 2020

Well, in my opinion you may well be right, even though I don't know your age at all. I am at 72, and my family dies at 83. I am almost tempted to build a 10 year ladder and just let it go, each cd rolling over into whatever rate it happens to roll over onto.

I think you did the correct thing. Now you can have peace of mind. Not only that, but "keeping up" can wear you down and take away from good ole, just relaxing. I vote relaxing over "keeping up".

wm24 | Nov 13, 2022 | 9 posts since 2022

Do not know.

MAKNYC | Nov 23, 2022 | 323 posts since 2015

As I’ve witnessed numerous times before on this website, your calculations still require meaningful assumptions to determine whether it was the correct strategy to close the CD early. Your age comment not withstanding, the actions you took apparently extended your maturity profile by about 3 years. To suggest that it is definitively correct to have done this because you will earn an extra 2.3% vs. 1.7% penalty is overly simplistic and could be right or wrong, again depending on additional assumptions. The only definitive comparison would’ve been to consider opening a replacement CD with a term of ‘2 years or so’, which perhaps would’ve still yielded around 4% today. But your transaction has now locked up your funds for an incremental 3 years which has a potentially large opportunity cost. What will interest rates be in ‘2 years or so’ when the original CD would’ve matured? I’m not suggesting this is realistic but imagine that in a consistently accelerating rate environment you did this same calculation every twelve months. Each time you calculate that it makes sense to close early and open a new one. And each time you forgo the interest earned over the prior year. In the fifth year of doing this you have given up all the interest earned to date on each CD, and we’ll hope rates stop going higher so that you can keep the final CD and the interest it generates. Meanwhile if you kept the original CD you’d have all that ‘below market’ interest and still be able to invest in the same final CD as in my theoretical.

IGR | Nov 13, 2022 | 580 posts since 2020

No, you are wrong... but you are basically asking for investment advise that is not appropriate in format of forums like this.
When age is factor, the interest rate is not.
We have no way of knowing what currency is in use out there.
And we have no proof that CD laddering any other investment strategy, or current interest rates will allow you to carry your savings into afterlife

blazer9 | Nov 13, 2022 | 228 posts since 2019

If only we could have short FTX

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