A Sound Mind Investing member in Texas recently sent us two newspaper ads for CDs with surprisingly attractive rates. One, from a company called First Fidelity Tax and Insurance, offered a 5.39% APY rate on a 3-month CD. The other, promoted by Sun Cities Financial Group, touted a 4.25% rate on an FDIC-insured CD with a 6-month term. How can these companies offer such high rates? What’s the catch?
The firms running the ads are quick to state they are not banks. Instead, they “help consumers locate insured banks nationwide” or are “a leader in locating superior banking and insurance products.”
Technically, they are “CD brokers.” The Sun Cities web site explains the company is “engaged in the business of placing deposits or facilitating the placement of the deposits of third parties with FDIC-insured depository institutions.” The FDIC and SEC have some words of warning about this type of activity, which we’ll get to shortly.
On the surface, their supposed ability to locate superior financial products looks to be of questionable value. After all, websites such as Bankrate.com turn anyone with an Internet connection into “a leader” in locating banks offering attractive rates. However, if you search Bankrate.com’s national database of banks, you won’t find CD rates anywhere close to 4%-5%. Currently, the best 6-month CD at Bankrate has a yield of only 1%—and 0.45% was the best they could come up with for a 3-month rate. So, again, how can the companies advertising in The Houston Chronicleprovide CDs offering so much more?
It turns out that the advertised rate isn’t the CD rate. One ad hinted at this by stating, “Yield may include a bonus.” The other was more explicit, stating: “Yield includes an interest bonus of 3.00%, plus 1.25% annual percentage yield.”
Here’s how it works. First—taking a page from the time-share marketing playbook—you have to go to the company’s office. There you will be told about two or three banks they have “located” offering CDs at attractive rates (more in line with what you’ll find through Bankrate.com.) Once you open a CD at one of the banks, the company promoting the high rate will pay you the difference in the form of a bonus, in some cases sending the bonus money along with your check to the bank where the CD will be held.
For example, say they locate a bank offering a 6-month CD paying 1.25% APY. If you deposit $10,000, in six months you will have earned $62.50 ($10,000 x 1.25% = $125, which is then divided in half based on the 6-month term). The CD broker covers the remaining 3%, or $150.
Source: Crosswalk | Matt Bell, SoundMindInvesting.com