CD early withdrawal penalties: How they work (2024)

CDs: A brief refresher

CDs and share certificates are a type of deposit account that banks and credit unions offer where you agree to deposit money for a set time. During that time, known as the CD’s term, your deposit earns interest.

When the term ends, your CD matures. Typically, your financial institution will offer you the option to either cash out the CD (and collect your initial deposit plus the accrued interest) or roll your money into a new CD with a different term and interest rate.

What is a CD early withdrawal penalty?

A CD early withdrawal penalty is a fee banks may charge if you withdraw funds before the CD matures. While not all banks and CDs have these penalties, they generally work the same. You may have to forfeit your accrued interest. In the worst cases, an early withdrawal penalty could cost you all your accrued interest plus some of your principal.

Federal law states that for a CD to qualify as a time or savings account with a fixed term, there must be a withdrawal penalty if a customer withdraws the money within the first six days after opening the account. The minimum penalty during this time is seven days’ interest. Banks often charge larger early withdrawal fees and apply them throughout the CD’s term, well beyond the first six days.

Why do banks charge early withdrawal penalties on CDs?

Banks charge penalties for early withdrawal for a few reasons:

• CDs typically pay higher interest rates than regular and high-yield savings accounts. “What you’re giving up for that higher interest rate [with a CD] is liquidity, or the ability to take it out whenever you want,” says Scott Ferguson, founder and wealth advisor at Abundant Life Financial.
• Banks use the money you deposit into a CD for other things, and early withdrawal affects their plans. “For instance, banks may invest the money from the CDs it sells and put it into timed investments that yield higher rates,” says Ferguson. Your early withdrawal means the bank must also withdraw its funds early, so it charges you a fee for that inconvenience.
• Banks also charge early withdrawal fees to recoup account servicing costs, including the time it takes bank employees to help customers open or close a CD account.

How to calculate a penalty for early CD withdrawal

Before you can calculate a CD early withdrawal penalty, you need to know how your bank’s early withdrawal penalty works. You can generally find this information in the paperwork you received when you opened the CD or in the deposit account agreement.

Depending on the CD, banks usually charge early withdrawal penalties on either your total original deposit or the amount you withdraw early. Then, they’ll use that figure to determine the penalty, which is generally a set number of days’ or months’ interest.

If your bank calculates its penalty by the day, the formula is:

Penalty = (Amount withdrawn or original deposit amount) x (Interest rate/365 days) x Number of days’ interest

If your bank calculates its penalty by the month, the formula is:

Penalty = (Amount withdrawn or original deposit amount) x (Interest rate/12 months) x Number of months’ interest

Here’s how these calculations look in action. Suppose your bank’s penalty is 180 days’ interest on the amount withdrawn. In this case, withdrawing $1,000 from a CD with a 4.85% APY would incur a penalty of $23.92, calculated as follows:

$1,000 x (0.0485/356 days) x 180 days = $23.92

Banks may also set a minimum penalty. If your bank imposes a minimum penalty, check how the result of the formula compares to the minimum. Generally, you will have to pay the higher of the two. For example, say your bank’s minimum penalty is $25. In the above example, $23.92 is less than $25, so you would owe $25 since it’s greater than the amount calculated using the formula.

How much are early withdrawal penalties on CDs?

Each bank determines its own early withdrawal penalties. While there’s no cap on the penalties banks can charge, most banks try to keep early withdrawal fees in line with competitors’ charges.

Typically, you have to give up at least a few months’ interest if you withdraw money from a CD early. Banks also tend to charge higher penalties on CDs with longer terms.

How to avoid early withdrawal penalties

If you’re looking at these fees and thinking there has to be a way to avoid them, you’re in luck. You have options, but some require planning to receive the full benefit.

Turn to your emergency fund

Ideally, you should have an emergency fund that you can draw from to pay unexpected bills. Experts recommend having three to six months’ expenses safely tucked away in a different type of savings account. Having a financial cushion can prevent having to tap higher-earning savings like CDs and running up expensive credit card debt.

Request a waiver

Some banks may waive the penalty if you’re withdrawing money due to a crisis, like a death or medical emergency, according to Ferguson. Reach out to your bank and explain the situation. The worst they can do is say no.

Consider a no-penalty CD

If you want all the benefits of a CD but more flexible access to your funds, look for banks that offer no-penalty CDs. No-penalty CDs are illiquid for the first six days of ownership, but you won’t be stuck with fees if you need to tap funds past the six-day mark. But in exchange for this flexibility, no-penalty CDs tend to offer lower interest rates. Ally Bank and Marcus by Goldman Sachs both offer no-penalty CDs.

“They’re going to have a rate probably higher than a savings account or a money market, but not quite as high as a CD that would have the penalties for early withdrawal,” says Brittany Pedersen, director of deposit and payment operations at Georgia’s Own Credit Union.

Use a CD ladder

Opening a single CD ties your savings up until that certificate matures, but you can create regular opportunities to access your money using a CD ladder.

This strategy involves opening several CDs simultaneously, each with a different term. For example, instead of investing $10,000 in one CD, you might divide that money up between four CDs of 3-, 6-, 9-, and 12-month terms. This strategy ensures you have a CD maturing every three months in case you need cash. If you need the money, great—withdraw the balance and interest. If you don’t, that’s fine—roll the money over into a new CD and keep the ladder going.

CD ladders can also help you increase your returns since they let you capture the best possible rate each time a CD matures. Even if interest rates decrease during your CD’s term, your money remains locked into a higher APY until maturity.

Explore a CD-secured loan

CD-secured loans are a type of collateralized personal loan your bank might offer. These loans use your CDs as collateral, which means your CDs remain untouched.

If you have a substantial sum invested in CDs but don’t want to jeopardize your interest earnings, CD-secured loans can give you cash in a pinch—and at lower rates than unsecured personal loans, says Pedersen. Before taking out any loan, it’s important to make sure you can meet the monthly payment, especially when cash is tight.

When paying an early withdrawal penalty makes sense

Despite all the drawbacks of CD early withdrawal penalties, there are times when paying them could make sense. You’ll need to assess each situation on a case-by-case basis to determine when paying the penalty puts you ahead.

“If you had to buy an air conditioning unit, it might be a lot cheaper just to pay the penalty to pull the funds from the CD versus putting that charge on a credit card, especially with credit card interest rates at 20% and higher for some people,” Pedersen says.

Paying an early withdrawal penalty could also make sense if your CD is earning considerably less than current interest rates. For example, if you have a long-term CD earning a 2% APY, and new CDs offer APYs in the 5% range, you should consider cashing out your long-term CD as it could mean earning 3% more on your cash.

Currently, CD rates are at a more than two-year high, and with some Fed officials signaling rate cuts later this year (depending on inflation), it’s possible that rates won’t soar any higher.

Some of the best CDs are offering APYs above 5%:

The takeaway

CD early withdrawal penalties can hit you by surprise and put a significant dent in your earnings. So, before tapping a CD that hasn’t matured, look for alternative ways to get the funds you need. A solid emergency fund can help you weather a wide variety of financial curveballs, but there are times when breaking a CD can make sense.

“If you’re going to put money in the CD, know why you’re doing it and when you’re planning on using it, and then also have kind of a backup plan,” Ferguson says.

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