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Beware of Bank Gimmicks

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There has been a lot of hub-bub the last few days about C1 Bank’s Mercedes Benz giveaway – the basic gist of the “deal” is: sign up for 5-year CD for $1 million, and instead of earning 1.2% APY, you immediately get a free Benz instead.

Most people (including NerdWallet) agree: This “offer” really isn’t a true bank deal; it’s a gimmick that panders to instant gratification.  In this post, we argue though, that not only is it a straight-up gimmick, it is frankly a bad economic decision.

Here’s why: Instead of receiving competitive interest, you get a car with a cash value (~$60,000) that ends up being less than what you would have received on a CD with exactly the same terms from another credit union/bank AND you would actually receive something that is de facto less than the stated amount. A few things wrong with this deal include:

  • Opportunity cost – Higher interest rates actually exist: You can actually find a much better interest rate on other financial products; for example, many 5 year-CD’s are offering 2%+ (compared to 1.19/1.2% offered by C1)  – using NerdWallet’s rate tool, one can quickly find a few CDs with the same term that has higher rates.  If I invest $1 million in a 5 year CD, I would actually walk away with earned interest of ~$100,000, which is significantly higher than $60,000 (this bank deal)!
  • With a Benz, under this deal, you’d be walking away with less value than you think.  With a new car, it’s common knowledge that ~20% of its value is lost as soon as you drive off the lot (depreciation); your $60,000 erodes to $48,000 in a few minutes.

Other important risks and concerns:

  • Deposits are insured only up to $250,000; with this gimmick, your $750,000 can be at risk if the bank fails.
  • Community Banks like this one have actually had a worse track record for failing; A FDIC study indicated Community Banks had a higher failure rate than other banks (0.69% vs 0.66%) – we love community banks, don’t get us wrong; we are just simply stating that no one should ever risk not having insurance on your deposit, just in case your bank fails.
  • Interest rate environment can change in 5 years.  Sure, the Fed has pledged low rates for a few years, but 5 years (e.g., 2017) is a long time away – by locking your money into a 5 year CD like this one, you can be risking forgoing higher interest down the road.  In 2005/2006, for example, interest rates were 5%+; it’s very feasible that you can miss out by tying down your money for 5 years.

Bottom Line:

  • In the last few years, bank deals have been pretty tame, for good reason (someone at the bank did the math and realized it’s not in their best interest) – free cookies, an I-pad giveaway, a few hundred bucks of sign up bonus, max.  Even in the credit card world, we see deals all the time, but at the most, even epic promotions like 100,000 free miles don’t equate to more than effective cash value of $1,000
  • When you are presented with a “deal” – always ask yourself: (1) What am I getting out of this deal? Crunch the numbers, factor in opportunity cost and other considerations (de-facto costs/expenses, etc); and (2) What am I giving up, from a non-monetary perspective? You might be taking on more risk (lack of insurance, risk of interest rates changing, risk of your bank going under).

There’s no such thing as a free lunch, sadly!

  • http://www.rewardcreditcardsite.com/ credit card deals

    Hi,

    How can I distinguish if a deal is one of the bank gimmicks or not?
    How did you know the failure rate of banks?

    Thanks