What Happens to Your CDs When a Bank Fails?
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FacebookA reader named John wrote in with the following question about what happens to a certificates of deposit (CDs) when a bank fails:
If a customer has a CD at a bank that fails, is there a risk that the account will stop earning interest until assets are purchased by another institution, or when the other bank takes over may it change the interest rate on the CD?
When a bank fails, the FDIC typically transfers the dead bank’s deposits to a new bank in fairly short order. Thus, unless you have a “brokered” CD (more on this below), there’s not much risk of extended downtime. It’s also worth noting that federal law requires the FDIC to pay 100% of your deposits up to FDIC insurance limits, including both principal and interest.
While the interest that you’ve earned to date is safe (assuming you’ve respected the FDIC limits), it’s quite possible that your rate will change. The reason for this is that the new bank isn’t required to honor the terms of the failed institution’s deposit agreements. The good news is that you’re not subject to early withdrawal penalties if you don’t like the new terms.
Two examples of CDs at failed banks
When NetBank failed in the fall of 2007, their deposits were transferred to ING Direct. In contrast, when the FDIC takeover of IndyMac Bank and turned it into IndyMac Federal Bank, they maintained the high CD rates that were being offered just before IndyMac’s failure.
Be careful with brokered CDs
As noted above, the situation is a bit different for “brokered” CDs, which are purchased through a third-party (such as a brokerage firm) instead of directly from a bank. In this case, the CDs are rarely passed directly to the new bank. Instead, the funds typically get wired back to the broker. This can take some time, however, as the FDIC has to first cross-reference the owners of the brokered CDs against the list of depositors at the bank to ensure that they don’t have other deposits at the bank that might push them over the FDIC insurance limits.
This brings up another point about brokered CDs… If you’re thinking about buying one, be sure you know where the broker plans to deposit your money. Otherwise, depending on the size of the CD and the amount of money you already have at a given bank, you might end up inadvertently exceed the FDIC insurance limits.
Published on August 8th, 2008 - 6 Comments
Filed under: Banking
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About the author: Nickel is the founder and editor-in-chief of this site. He's a thirty-something family man who has been writing about personal finance since 2005, and guess what? He's on Twitter!
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I can provide first hand corroboration about the Netbank –> ING transfer. I had 5 CDs with Netbank that were transferred relatively quickly to ING. Soon thereafter I got a notice that the rate was going to change (go down, of course) and that I could withdraw my money with no penalty. It made sense to withdrawn 2 of the longer term CDs since I could find better deals elsewhere, but the shorter term ones stayed.
Comment by MITBeta @ Don't Feed the Alligators — Aug 8th 2008 @ 9:11 amHey Nick, do me a favor and prominently post the date on your blog entries. I find it useful to click on related past entries that you list at the bottom of your daily entries, but irritating that I cannot quickly tell when you wrote them. Some entries, like milk, have a “sell-by” usefulness date. Put another way, I want to know how “stale” your product may be before I invest my time to read it.
On another note, I had $103,500 CD at IndyMac Bank when it failed. It took until 8/8/08 for the FDIC to call and inform me that, due to the way I had the account configured (held within a trust with 4 beneficiaries), it was 100% insured. Even at that, I had to first send in an account-ownership-affirmation letter. So, I’m relieved. Even better, I can now liquidate the CD without penalty, or leave it there, with the 4.01% APY term unchanged, until its 10/20/08 maturity date.
Comment by Chris Desmond — Aug 9th 2008 @ 9:55 amThat’s a good thing to know that you can get the highest yielding CD out there and even if the bank fails, as long as you have less than $100k invested there you will walk away safely.
Comment by Dividend Growth Investor — Aug 9th 2008 @ 6:24 pmThe bank crisis certainly has people a little nervous. It will be interesting how this all shakes out.
Comment by Mark Nelson — Aug 11th 2008 @ 9:38 amThanks for the post. I think it’s important for people to understand and not to cause a panic by going to the bank and taking out money on any little rumors.
Comment by BankAround — Aug 11th 2008 @ 11:01 amThis post rings true for me- I bought an IndyMac CD at 4.35% the DAY before it failed. I received a statement in the mail over the weekend, and sure enough, I’m earning my interest. I’m comforted knowing that should another bank come in and take over the assets of the new IndyMac Federal Bank, I will have the option of withdrawing my funds if they propose a lower rate. Until then, I’m safely earning the highest yield out there.
Comment by #1HB4DB — Aug 13th 2008 @ 9:34 am