Some banks reconsider daily interest compounding on CDs

By , Staff writer of The Christian Science Monitor

Let us begin with a thought from Benjamin Franklin: ''Money is of a prolific generating nature. Money can beget money, and its offspring can beget more.''

Not if some banks have their way.

Money's ''offspring'' is interest, and since dereg-ulation of the banking and savings industry, and particularly since the deregulation of time deposits last October, banks have been looking for ways to cut costs.

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To this end, some banks are beginning to reconsider the interest they pay on their certificates of deposit. So to be more ''competitive'' they will advertise a slightly higher rate, but without compounding interest, which means you get less money at the end of the year.

''We've noticed a definite trend in the last several months away from compounding,'' says Robert Heady, publisher of the Bank Rate Monitor, a Miami Beach, Fla., newsletter.

It is not necessary to know exactly how interest is compounded to understand that, the more often it happens, the more your account will earn. For example, Mr. Heady compares the difference between what $5,000 will earn at various compounding schedules. At 8.5 percent, Mr. Heady says, that $5,000 will earn $ 425 with simple interest (that is, on an annual basis), $441.96 with monthly compounding, $443.20 with weekly compounding, and $443.51 with daily compounding.

As interest rates climb, Mr. Heady believes, ''daily compounding will become less and less frequent, and we're apt to see more monthly and quarterly compounding.''

But bank and thrift customers may be able to find the highest possible returns, if they know what to ask for, he says. Besides asking the banker how often they compound interest, tell them how much you plan to deposit. Ask how much you will have in your account at the end of the year, after any fees and charges are subtracted. Then, compare the bank's answer with the competition.

Using insurance proceeds

My daughter recently became a widow at the age of 31. She has a six-month-old child. She plans to buy a house with part of the life-insurance proceeds. What would be the best thing to do with the remaining $50,000 to $60,000 in her situation? She knows nothing about investments. - D. F.

It is impossible to recommend an exact course of action for this situation, says Thomas McFarland, a financial planner with the New England Financial Planning Group in Burlington, Mass. But he does have some ''things to consider'' that may prove useful. He recommends your daughter discuss them with a financial adviser and a lawyer in your area to see which alternatives fit this situation.

Before starting the list, however, we will make the assumption that your daughter will soon be working, if she isn't already, since $60,000 could yield only about $6,000 a year in the best of circumstances, not enough to live on. If she cannot work full time, a part-time job may do. Some employers have ''mothers hours,'' Mr. McFarland notes, such as 9 a.m. to 2 p.m.

First, she should check her own life, medical, and disability insurance coverage. She should also name a relative as guardian, should she die before the child becomes an adult.

Second, she might put $3,000 to $5,000 in an account under the Uniform Gifts to Minors Act for the child's college education. Here, any interest the money earns is taxed at the child's rate, meaning it will be tax-free in most years.

Also, if she needs marketable skills, she might consider using part of the money for her own higher education. ''Invest in yourself,'' McFarland says.

Another $20,000 or so might go into an ''emergency fund'' in a bank money market deposit account (currently paying about 8.5 percent), or a credit union (paying a similar rate).

Now, Mr. McFarland notes, the $30,000 that is left should be put in several different places, to earn income and provide the safety that comes with diversity. Thus, she will have to begin learning about investments.

A no-load mutual fund company with several funds in the ''family'' might be a good place to start. Right now, with interest rates going up, a money fund provides reasonable safety and high current yield. She will also receive information in the mail now and then about other funds in the group.

Mr. McFarland suggests a municipal bond trust where the value of the bonds always stays at ''par,'' that is, their price does not fluctuate with changes in the bond market. These are currently paying about 7.5 percent tax-free, he says. She might also consider Ginnie Mae certificates. These are not federally insured , but they are backed by the mortgages in the portfolio, and homeowners have a very low default rate.

Before starting out on these or any other investments, your daughter should talk to more than one financial adviser and broker to compare answers and recommendations.

Finally, he cautions, this is an important time to be particularly watchful about discretionary spending. ''When people have a loss like that,'' he says, ''they often start buying things to help ease their grief. They should be very careful about this.''

TIf you would like a question considered for publication in this column, please send it to Moneywise, The Christian Science Monitor, One Norway Street, Boston, Mass. 02115. No personal replies can be given. References to investments are not an endorsement or recommendation by this newspaper.

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