What Is a Bump-Up Certificate of Deposit?

A bump-up certificate of deposit (bump-up CD) is a savings certificate that entitles the bearer to take advantage of rising interest rates with a one-time option to raise (or “bump up”) the interest rate paid. The bump-up CD typically starts with a lower rate than that of a similar CD with no bump-up option, but there are bump-up CDs with competitive starting rates if you do some digging.

Understanding a Bump-Up CD

A CD is a savings product that pays interest until it matures, at which point the investor or depositor can access their funds. A CD is issued by banks or credit unions to investors who purchase the CDs to earn interest on their investment for a fixed period of time, such as 6 months or 12 months.

Usually, the interest rate stays the same for the life of a traditional CD. But some CDs permit changes to the interest rate, including a bump-up CD.

A bump-up CD typically permits a one-time increase in the interest rate, which is then locked in until maturity. However, CDs with longer terms (such as 4 years) may have the option to change rates twice over the certificate's lifetime.

Although it is still possible to withdraw money from a bump-up CD before the maturity date, this action will often incur an early withdrawal penalty.

When purchasing a bump-up CD, investors should ensure that they find out how many times they are allowed to bump up the interest rate and any other restrictions, such as a cap on how high the yield can be increased (or bumped up) at any one time.

Starting rates on bump-up CDs are often lower than those on comparable traditional CDs. Investors of CDs with bump-up options are disadvantaged if interest rates decrease or remain unchanged compared to those with a higher-paying traditional CD.

Advantages and Disadvantages of a Step-Up CD

Advantages Explained

• Lets you take advantage of rising rates: The bump-up CD allows you to take advantage of rising rates. You buy a bump-up CD expecting interest rates to go up. If rates increase, you can bump up the interest rate to the current higher rate and earn more money.
• No chance of rate dropping: Unlike a variable rate CD, which also lets you take advantage of rising rates, your rate with a bump-up CD can't go down, even if prevailing interest rates drop.
• Ideal when rates are rising but may soon even out: If rates are increasing rapidly for now but may soon slow, a CD holder holding a bump-up CD could catch a last higher-interest wave before rates flatten or decrease. This could help relieve any concerns about missing the boat altogether.
• Federally insured: In addition, as will almost all CDs, most bump-up CDs are insured by the FDIC for up to $250,000 in total per depositor, ensuring you will receive your principal back. Bump-up CDs offered by credit unions are insured for up to $250,000 by the National Credit Union Administration (NCUA).

Disadvantages Explained

• Only available for longer terms: If you only want to lock up your money for a year or less, you may not find a bump-up CD. Bump-up CDs tend to be longer-term, such as 24 months or more.
• One chance to raise rate means you must time the market right: Bump-up CDs also force you to "time the market" and guess the best time to lock in a new rate. Most require you to contact the bank and request a rate increase. If you don't enjoy keeping a close eye on the rates or feel nervous about pulling the trigger at the right time, a step-up CD may not be as good an option as a no-penalty CD.
• Lower starting rates than other CDs: On average, the beginning interest rate of a step-up CD is lower than that of other CD types, including variable-rate CDs, no-penalty CDs, and traditional CDs.
• Liquidity and inflation risks: Like a traditional CD, a step-up CD will come with early withdrawal penalties, typically several months' interest earnings. These penalties can eat into your returns. In addition, inflation can also decrease the value of your earnings.

Example of a Bump-Up CD

For example, assume a bank issues a CD with a 24-month maturity date and one bump-up option. The current interest rate on the CD is 2%. Market rates increase to 2.9% in six months. At the six-month point, you can exercise the bump-up or step-up option, increasing your yield to 2.9% for the remaining 18 months.

If rates decline after you exercise the bump-up option on the CD, the new higher rate cannot be changed. In effect, you are protected against losing interest during the decline.

But if rates rise again to 3.5% another six months later, you can't choose to re-raise the CD's rates again. There may be an opportunity cost of keeping the lower interest rate for the CD's term—the funds could be put into the stock market, a higher-yield CD or another investment making more than 2%.

Bottom Line

If you want a longer-term CD for a savings goal, a bump-up CD can help reassure you if you're concerned rates will increase. When you feel rates are sufficiently higher and you're comfortable with potential returns, you can contact the financial institution to request a raise in your rate.

That said, it's essential to read the fine details—for example, how many times you can step up your rate and any early-withdrawal penalties. You should also seek a bump-up CD with a competitive starting rate.