Interest rates have moved up sharply. You may still have Certificates of Deposit that pay a much lower rate. You’ll get a higher annual percentage yield (APY) if you break them to invest in new CDs but you’ll have to pay an early withdrawal penalty. Is the higher interest rate worth the drawback of paying the penalty?
DepositAccounts.com offers a When to Break a CD Calculator. However, it assumes the new CD has the same term as the remaining term on the existing CD. In other words, it compares keeping a CD with two more years until maturity with breaking the CD now and getting into a new 2-year CD.
What if you’re considering CDs that have longer terms than the remaining term of your existing CD? Suppose you’re considering a new 5-year CD when your existing CD has two years left. Here are your choices:
1. Keep the existing CD for two years until its maturity date and buy a new 3-year CD at that time.
2. Pay the early withdrawal penalty to break the CD and buy a 5-year CD now.
The missing piece of information is how much interest you can get when you buy a 3-year CD two years from now. Nobody knows but you can guess. If the annual interest rate two years from now is low, you are better off breaking the CD and getting into a higher rate now. If it is high, you may be better off just waiting until your current CD matures and getting into a higher rate at that time.
I didn’t find a calculator for this situation when I did a quick Google search. So I made one myself. Enter the numbers directly into the calculator below. The formula will do the math for you.
You enter the circumstances about your existing CD and the new CD you are considering:
- Each CD’s APY
- The remaining term on the existing CD
- The new CD term
- The early withdrawal penalty on each CD as in how many months of interest
You enter a guess of the interest rate when your existing CD matures. The calculator then tells you the additional amount of money you’ll get if you break the existing CD and buy a new longer-term CD now. If that earnings number is negative, it means you should keep the existing CD and just wait.
Because it automatically calculates, you can experiment with your guess of the rate in the future, from very low to very high. You will see how the comparison changes.
All else being equal, you’re better off paying the early withdrawal penalty to break the CD when:
- The early withdrawal penalty is low.
- The gap between the rate on your existing CD and the rate on a new CD is high.
- The remaining term on the existing CD is long.
- You think the rate will be low when your existing CD matures.
If the early withdrawal penalty is low and there’s a big gap between the rates on your existing CD and the new CD, the higher rate pays off quickly to cover the early withdrawal penalty.
If your existing CD only has a short term left anyway and you think the rate will stay high at the time of renewal, you’re better off waiting until it matures. If you think the rate on a new CD will be low when your existing CD matures, you are better off breaking the CD now because otherwise you just sit on a low rate for nothing. If the rate will be high when your existing CD matures, you also have the option to break the new CD again in order to get into a higher rate at that time. The calculator also takes that into account.
Next time you run into a situation like this, plug in your own numbers and see what the calculator says.
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