The Benefits of Bump-Up CDs


NEW YORK (RateWatch) – With certificate of deposit rates dropping lower and lower – the average APY for 12-month CDs currently sits at 0.532%, according to RateWatch – it’s not unreasonable to wonder if it’s wise to put money in a CD at all.

Of course, interest rate risk is always a factor when considering a CD, but indications that CD rates will soon start to rise raise the concern of being locked into a low rate. Some banks offer “bump-up” CDs that insure you against the possibility of being stuck with a low rate while watching helplessly as interest rates rise.

Last month we looked at no-penalty CDs, which essentially offer you the right to press the eject button and escape from your CD contract without paying a price. But if you don’t want to deal with taking out your money and starting over with a new CD, the bump-up CD gives you the opportunity to get a better rate in the middle of your term.

That doesn’t mean your rate will just rise as the interest rate does, though. Typically these bump-up CDs usually allow only a single “bump” to the current rate for a similar product at the bank. The San Diego County Credit Union, for instance, offers a 23-month bump-up CD at a 1.35% APY that you can bump once to a replacement rate from a non-promotional CD or IRA at the credit union.

If you’d like more flexibility, some banks offer two bumps. The Iowa-based First National Bank of West Union, for instance, has a 30-month CD that it advertises as “two times repriceable.” 

Of course, there’s some calculation involved in making the most of these CDs. Burn your bump(s) too soon and you may miss out on even higher rates; burn it too late and your money won’t spend as much time earning interest at the higher rate. And as with no-penalty CDs, the banks count on indecisive or inattentive customers who don’t use their bump in time to make any serious difference in their earnings.

Similar products are available to customers who are worried about interest rate risk but don’t want to deal with calculating optimal bump times and predicting the ebbs and flows of the interest rate market. So-called “step-up” CDs likewise offer a bump if rates increase, but it happens automatically. The United Bank of Union, Missouri, for instance, offers a 36-month CD with a 2.12% APY, which increases automatically after 24 months if the bank’s CD rates have gone up. They also offer a 60-month CD, but the bump doesn’t kick in until three years have elapsed.

Still, if you don’t mind doing a little homework, a bump-up CD is usually worth it. While some banks make you take a reduced rate in exchange for giving you a bump-up option, that’s not always the case. The Farm Bureau Bank, for instance, offers six-month, 18-month and 24-month step-up CDs with rates identical to the equivalent regular CDs. However, their longer-term CDs do impose a rate penalty for getting a step-up option; the APY on their five-year step-up CD is almost an entire percentage point lower than the standard five-year CD.

For more predictable rate increases, there’s one more option – rising-rate CDs. Rather than having a single rate that prevails over the term of the CD, the rate will increase by agreed-upon amounts at fixed intervals. Take the 36-month rising-rate CD from the LaPorte Savings Bank of Indiana. For the first six months, your money gets a 0.4% APY; then for the next six months the rate will be 0.75%, and so on to 1%, 1.25%, 1.51% and finally 2.01% for the final six months of the contract.

Of course, while it might feel good to watch your rate go up every six months, you’re not really insuring yourself against interest rate risk. Indeed, this type of product is more or less a gimmick – the bank could just as easily pay out the blended rate over the life of the CD and you’d wind up getting the same interest. In the case of the LaPorte Savings Bank, they tell you up front that the blended rate is 1.15% - only slightly above the current average APY for 36-month CDs, 1.102%.

So if your local bank is offering one of these as a CD special, find out what the effective blended rate is and see whether you’re really getting a good deal.

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