Financial Q&A: Will interest earned on a CD still be there after a bank fails?

Q: If I allow the interest to roll over into the CD balance each year on a five-year CD and during that time the bank fails, will the FDIC guarantee my principal and accumulated interest as of the failure date? Should I have the interest paid to me each month, quarter, etc. to avoid any loss?

M.E., via e-mail

A: For any deposit, whether it's a CD, checking account, savings account, etc., the FDIC covers principal and interest up to the insured limit. And David Barr, a spokesman for the federal government agency, says that the FDIC makes sure that all interest is posted to the account, whether it's one day, or some other length of time.

"Nobody loses out on the interest, unless it pushes them over the top in terms of insurance limits," says Mr. Barr.

As to when interest is credited – it doesn't much matter because the FDIC will tally the interest as of the date of the failure.

In practice, however, the FDIC steps in only very rarely. When a bank goes under, it's much more likely that the government will find it a merger partner. In those instances, the healthier bank takes over the insured deposits and in many cases all of the deposits. In all 28 instances in the past two years when a bank failed, the FDIC was able to find a buyer.

One caution: Barr says that the assuming bank has the option to lower interest rates. If that happens, depositors can withdraw their money without suffering any early withdrawal penalties on CDs. If the rates are dropped, the interest at the old rate will be in effect until the date the bank lowers the rates. From that point going forward, interest will be paid at the new rate.