Tax Legal Services · Primary-source case analysis

Centennial Savings Bank: Early-Withdrawal Penalties Were Income When Received

By Aneeta Mishra and Timothy Chan

Published April 25, 2026

Centennial Savings Bank distinguishes a unilateral exercise of contractual rights from a payment made in exchange for cancellation of a debt instrument.

Depositors forfeited interest on early withdrawal

The bank’s certificates required customers who withdrew before maturity to surrender part of the interest earned. The bank treated the retained penalties as capital gain under section 1234A.

Section 1234A required an exchange for cancellation

The statute covered gain or loss attributable to cancellation, lapse, expiration, or other termination of a right or obligation with respect to property. The Court read cancellation to require a payment given in exchange for release from an obligation.

The bank merely enforced the original contract

Depositors exercised a contractual withdrawal right and the bank retained the agreed penalty. The bank did not pay or receive consideration for a separate agreement cancelling its certificate obligations.

Disposition

The Court affirmed treatment of the penalties as ordinary income. The analysis turned on the transaction’s legal structure rather than the label penalty alone.

Key takeaways

• Read the instrument’s withdrawal and termination provisions.
• Identify what payment was exchanged for what legal release.
• Distinguish contract enforcement from negotiated cancellation.
• Classify income from the transaction actually completed.