Shopping for the highest CD rate can earn you hundreds and possibly thousands of dollars in extra interest each year. However, there's more to picking a certificate of deposit than simply finding the best CD rates. It might be worth kicking the tires a little bit when it comes to your bank's financial condition.
Even with FDIC insurance, and even with the U.S. financial system seeming on more solid ground than it was at the start of the year, you still could be affected if your bank were to become insolvent. This is especially true of certificates of deposit, since these represent a longer-term commitment to your bank. That's why there's more to choosing a certificate of deposit than simply comparing CD rates.
Financial Health Concerns Persist for Some Banks
While most experts would agree that the financial system as a whole is back on sound footing, that doesn't mean that every troubled bank is now healthy. After all, even in good times banks occasionally fail, and the current environment still poses special challenges for America's banks.
The numbers bear this out. Even with improving conditions, 81 banks have failed this year, and the number of banks categorized as "troubled" has climbed to 250. When compared to the several thousand of banks still in business and healthy, that's not an unmanageable number, but in a way that's just the problem. While the financial system as whole can fairly be described as sound, there are still risks for individual depositors.
Why FDIC Insurance Is a Last Resort
So, what about FDIC insurance--isn't that the safety net which is supposed to neutralize these risks?
Well a worst-case scenario person would point to the depleted state of the FDIC's insurance fund. From June of 2008 to June of 2009, this insurance fund declined from $40 billion to around $10 billion. At the same time, the FDIC has more than doubled the limit on insured deposits. Between having lower reserves and raising the amount it insures, the ratio of reserves-to-insured deposits has dropped to 0.27 percent, the lowest level in over a decade.
The good news is that the FDIC has raised bank premiums in order to rebuild its reserves, and it would no doubt receive ample support from the Federal Reserve and the U.S. Treasury in a pinch. However, you still don't want to be caught in a bank that fails, even if your deposits are insured. You could experience delays in being able to access your money, and would be likely to lose some of the interest you had accrued on your certificate of deposit.
Steps for Picking a Certificate of Deposit
So how do you weigh the safety factor against CD rates when picking a certificate of deposit. Try following these steps:
- Compare current CD rates.
- Make a short-list of banks with the highest CD rates.
- Check on the financial condition of the finalists. Publicly-traded banks release regular financial statements, and even private banks may make some basic balance sheet information available. Also check for recent news articles.
There are too many banks out there for you to research the financial condition of them all. By using CD rates to narrow the field first, you will have a smaller number of banks to look at more closely.
Source: AnnaMaria Andriotis and Sarah Morgan • How Safe Are FDIC-Insured Bank Accounts? • Aug 24, 2009 • Smart Money.
The original article can be found at MoneyRates.com.