Sunday, June 1, 2014

Synchrony Bank 5-Year CD

Note: Since originally publishing this, GE Capital Retail Bank has been renamed to Synchrony Bank, and the 5-year CD rate now is 2.25% instead of 2.30%. I have re-titled the post accordingly and done a few minor edits since I refer to this blog post so often in my Bogleheads posts.

I am in the process of transferring out of some bond funds and a money market fund in my IRA at Fidelity to a new IRA CD at GE Capital Retail Bank (GECRB, now Synchrony Bank). The CD interest rate is 2.30% APY (now 2.25%), and the early withdrawal penalty is six months of interest. This is an excellent fixed-income choice in today's ongoing-low-rate environment. PenFed credit union offered a much better deal back in December 2013 and January 2014, with a 5-year CD earning 3.03%, but nothing has come close to that since. Top CD rates have been hovering around 2.25% lately. Following are some details about what I've done so far to open the account and transfer the funds, and a recap of why I like CDs purchased directly from banks and credit unions.

Although I've done quite a few IRA transfers previously, I first called GECRB to find out the quickest way to open the IRA account and initiate the IRA transfer. I also wanted to know what would happen if they lowered their CD rate before the transfer from Fidelity was complete. I was transferred to an IRA specialist, who told me that the quickest way to do what I wanted was to download a form, complete three pages, and mail it to them. She told me where to find the form on their website and which pages to complete; it took a few seconds to navigate to the form and download it. I completed pages 2 and 3 of this form to open the traditional IRA, and page 6 to request the transfer from Fidelity.

I was happy to be told by the GECRB IRA specialist that they will lock the CD rate as soon as they receive the transfer authorization form. Not only that, but if their rate increases before they receive the transferred funds, they will give me the higher rate. This is outstanding; many institutions give you whatever rate is in effect when they receive the transferred funds, in which case you could receive a lower rate than when you initiated the transfer (since the transfer can take two or three weeks). I mailed the IRA account application and transfer authorization forms a few days ago.

Don't confuse GE Capital Retail Bank with GE Capital Bank. GE Capital Bank also offers competitive CD rates, but does not offer IRA accounts. Both banks are part of the General Electric Company. This will be changing soon, since GE is spinning off the parent company of GECRB, and GECRB will be renamed to Synchrony Bank (it is now so named).

The 2.30% rate (now 2.25%) on the 5-year CD from GECRB requires a minimum deposit of $25,000. For smaller amounts the rate is 2.25% (now 2.20%), which still is excellent.

Here's a recap of how I compare CDs purchased directly from banks and credit unions to bond funds (I invest in both, but I currently have much more in direct CDs).

As is the case now, you often can find CDs that offer an interest rate that is the same as or higher than the yield (interest rate) of a typical bond fund. For example, as of 5/30/2014 the SEC yield of Vanguard Total Bond Market Index Fund (Admiral Shares) is 2.08%. This is a lower rate than the CD, and the bond fund has significantly more interest-rate risk than the CD, as well as some credit risk. The CD has no credit risk as long as you stay within the FDIC insurance limit, which for an IRA is $250,000 per bank.

To illustrate the interest-rate risk, if the total bond fund yield were to increase by 1 percentage point (from 2.08% to 3.08%), the value of the fund would decrease by about 5.6% (because the average duration of the fund is 5.6 years). By contrast, you would lose only the early withdrawal penalty of 1.15% in doing an early withdrawal from the CD to reinvest at a higher rate (since the early withdrawal penalty is six months of interest, or half of one year's interest, it is about half of 2.30%).

I like to compare CDs to US Treasury securities (bonds, notes, bills) of the same maturity. Since neither has any credit risk and we can exactly match the maturity, it's more of an apples to apples comparison than comparing a CD to a total bond fund. The yield on a 5-year Treasury security as of 5/30/2014 is 1.54%. The CD rate of 2.3% is almost 50% higher, and the Treasury has more interest-rate risk, although this risk decreases as the security approaches maturity. If the Treasury rate increased to 2.54% in one year after purchase (4 years left to maturity, so we we'd look at the 4-year Treasury rate), it would lose about 3.8% in value. So the 5-year CD has a much higher yield and less interest-rate risk than the 5-year Treasury.

One might wonder why CDs can have yields so much higher than Treasuries, since in an efficient market, capital should flow to the security with the higher yield and the same risk, and even more so if the higher yielding security is less risky. I think the primary reason is that the federal insurance (FDIC for banks, NCUA for federal credit unions) on CDs and other deposit accounts is limited to $250,000 per institution per ownership category. So US Treasuries are safer for large institutions and governments with billions of dollars to invest, since they can't take advantage of the federal insurance. Also, the US Treasury market is the most liquid market on the planet, so a large financial institution or government can quickly and easily move their billions into and out of US Treasuries.

However, directly purchased CDs are not always an option, for example in an employer-sponsored retirement plan, like a 401k or 403b. So if your entire portfolio is in an employer-sponsored retirement plan, you'll have to make due with whatever bond funds and money market funds are available, although some 401k/403b plans offer something called a Stable Value fund, which may offer a competitive yield with no interest-rate risk and minimal credit risk. A stable value fund with a yield of 2% or more is a good alternative to a direct CD, and I generally would prefer it to a bond fund with a similar or even slightly higher yield.

One risk with a direct CD is that the bank or credit union may change the early withdrawal terms, or even disallow an early withdrawal. I personally haven't worried much about this, and have done a few early withdrawals with no problems. However, I might hesitate to put funds into a 5-year CD that I absolutely needed access to in less than five years.

If you are considering buying this CD in a taxable account (not in an IRA), you should compare the after-tax yield of the CD to the SEC yield of tax-exempt bond funds. If the tax-exempt bond fund provides a higher yield after factoring in income taxes, then you have to decide if the interest-rate risk and credit risk of the bond fund is worth the extra yield.

For example, if you are a California resident with income taxed at the 28% federal marginal tax rate and the  9.3% state marginal tax rate, your after-tax yield on the 2.3% CD is 1.50% (calculation: 2.3% x (1-0.28) x (1-0.093) = 1.50%; this calculation assumes you itemize deductions and deduct state income tax on your federal tax return). As of 5/30/2014 the SEC yield on the Vanguard California Intermediate-Term Tax-Exempt bond fund, on which there is no federal or state income tax, is about 1.7%, and on the CA Long-Term Tax-Exempt bond fund it's about 2.45%. So the tax-exempt bond funds have higher after-tax yields, but also have significantly more risk, and of course the higher yield of the long-term bond fund comes with more interest-rate risk than the intermediate-term bond fund.

If your federal marginal tax rate is only 15% and your state marginal rate is 6%, assuming you don't itemize deductions on your federal return, the after-tax yield on the CD is 1.82% (calculation: 2.3% x (1- 0.15 - 0.06) = 1.82%). In this case you are better off with the CD than the intermediate-term tax-exempt bond fund, but you still can get a higher yield at higher risk with the long-term tax-exempt bond fund.

Of course you don't have to put all of your fixed income into either CDs or bond funds--you can use both (assuming not all of your portfolio is in an employer-sponsored retirement plan). I have about 2/3 of my fixed income in direct CDs (in both IRA and taxable accounts), and 1/3 in mostly intermediate-term investment-grade and tax-exempt bond funds (but with some of it in cash). The CDs lower my interest-rate risk significantly, while the bond funds boost my yield, and provide more liquid funds for rebalancing into stocks as necessary.

For example, one bond fund I own in my IRA at Vanguard is the Vanguard Intermediate-Term Investment-Grade Bond fund (Admiral Shares), which has an SEC yield of 2.52% as of 5/30/2014--higher than the 2.3% CD and the 2.08% total bond fund. Consisting mostly of corporate bonds, it is riskier than the total bond fund, which has lots of Treasury bonds in it. But with so much of my fixed income in low-risk CDs, I feel that I can afford to take a bit more risk in my bond funds in exchange for the higher yields. I view my CDs as higher-yield, lower-risk substitutes for the Treasuries in the total bond fund, and my investment-grade bond funds as comparable in risk and yield to the corporate bonds in the total bond fund.


  1. Kevin, this is a very helpful post. I'm working to help my 88 year old parents select a single bond fund for their IRA's at Vanguard (the remainder of their portfolio is in 3% CD's at PenFed). They are OK with a bit more risk than a CD, but still want to minimize drawdowns since their investment timeline is relatively short (most likely). I don't like the Total Bond fund much, especially the MBS component. I'm torn between the Intermediate Treasury and the short term bond index fund. Any thoughts on this? Thanks.

  2. Hi Kevin,
    Thank you for sharing this information.
    With the CD's do you recommend taking the the interest or reinvesting it?

  3. Rick, whether or not to reinvest the interest or have it distributed depends on your situation. If you don't need the income, then why not reinvest it at this attractive rate? If you are retired and living off of your investments (at least partially), then having the interest distributed could reduce the need to sell other investments that you may not want to sell.

  4. Kevin-- My accounts will all be P.O.D accounts. Do you think there will be any problems with the beneficiaries getting the funds paid out from 5 year CD'S?
    I really would like the interest income for whatever time I have left but don't want my children to have problems receiving the funds. Thanks,

  5. Nancy, each institution has its own procedures, but if you designate your children as beneficiaries with a Payable on Death (POD) registration, there should be a straightforward process for each beneficiary to withdraw their share of the CD upon death of the owner. All the CD terms I've seen waive the early withdrawal penalty on death.

    I recommend that you discuss with the bank or credit union the procedure for a beneficiary withdrawing from the CD upon death of the owner. A death certificate will be required, and they probably have a standard form for the beneficiary to fill out. Each beneficiary will have follow whatever procedure they have.

    This brings up another point. Someone who has an expected lifetime of only a few years can buy even longer-maturity CDs through a broker for the higher rates, but without exposing her heirs to any interest-rate risk. Most brokered CDs have a "death put" (survivor option), which allows the heirs to sell the CD at face value upon death of the owner. The death put allows the heirs to get out of the CD without penalty if rates have risen much by the time the owner dies.

    For example, I see a 10-year new issue 10-year CD being offered by Vanguard at 3.35%, which is significantly higher than the 2.3% offered by Synchrony Bank for their 5-year CD. This allows you to earn the higher rate now, and if rates are higher when the heirs inherit, they can sell the CD for full face value and reinvest at the higher rate.

  6. Sorry, I read "Nanny" as "Nancy"; comment above was for Nanny813.

  7. Hi Kevin - Not sure if you are keeping this site active, but I'm interested in your opinion. Just had a large CD expire and trying to decide what to do next. Would like to just roll it over to a new 5 year CD at Barclays yielding 2.25% but am concerned that the fed will be raising rates beginning in 2015. I like your philosophy of just paying the EWP if rates go up too much, but not sure the conditions where this would make sense. So do you think its smarter to just sit in a mmf at 1% until rates rise, or is it better to lock in a new 5 year cd at 2.25% with 180 days interest EWP?

  8. We don't know when the Fed will increase rates, and when they do how it will affect 5-year rates. The Fed exerts the most influence over very short-term rates, especially since ending quantitative easing (buying longer-term bonds). I don't try to predict interest rates, but just look at the comparison between a 5-year CD and a 5-year Treasury. With 5-year Treasury rate at 1.6%, the CD earning 2.25% is a very good deal for the retail investor, especially with the cheap early withdrawal penalty. The market knows as much as we do about potentially rising rates, and that is built into the 5-year Treasury yield.

    Hope that helps,


  9. Thanks for the response, Kevin. Hard not to feel like I'm "fighting the fed", but think I'll resist trying to time the market and just proceed with buying the CD immediately. Best to you and hope you'll be keeping this site going as we go through the post-QE world.

  10. Kevin, thanks very much for sharing this and putting the link into the Bogleheads forum. I just wanted to ask why you mention the after tax rate only matters in the case of holding the CD in a taxable account. Even if you hold the CD in a traditional IRA, you still get taxed on the earnings when you take distributions from the IRA. So you will eventually pay tax on the tax-deferred rolled over principal along with the interest it earns.

  11. Sorry for the late reply, but for some reason, I haven't been seeing notifications of new comments.

    It is only in a taxable account that you have the alternative of using a tax-exempt bond or bond fund (or at least it only makes sense in a taxable account). So for this comparison, you should look at after tax yields (and of course also risk). It was only in comparing to muni bond funds that I discussed looking at after-tax yields, so it's not a matter of taxable vs. tax-advantaged accounts, but of the additional alternative of tax-exempt bonds in taxable accounts.

    You can compare CDs and Treasury yields directly either in taxable or tax-advantaged accounts, except that Treasuries are exempt from state taxes, so state tax should be factored in in taxable accounts. Other than state taxes in a taxable account, you'll pay the same tax rates on a CD, Treasury, or taxable bond fund earnings, whether in a taxable account or upon distributions from a tax-deferred account.

    It's true that the magnitude of the difference between after-tax yields is less than the difference between pre-tax yields, but the rank order doesn't change. So the pre-tax difference in yields for a CD at 2% and a Treasury at 1.5% is 0.5% (50 basis points), but at a 25% marginal tax rate, the after-tax yields are 1.5% and 1.125% respectively (e.g., 2% x (1 - 0.25) = 1.5%), so the difference in after-tax yields is less at 0.375% (37.5 bps), but the after tax CD yield still is higher. However, spreads like this usually are discussed without considering taxes.

    Regarding taxes on traditional IRA distributions, some people actually can get a deduction on contributions and pay nothing on distributions of contributions or interest! This can be the case for people who don't amass large tax-deferred accounts, and don't have a lot of other non-social-security income in retirement. I have relatives for whom this is has been the case (and I did their tax returns, so I know). Pretty sweet deal, providing the best of both traditional and Roth IRAs. This is an example of why a Roth IRA is not always the no-brainer it's sometimes made out to be.