Usually featuring a fixed interest rate, a certificate of deposit is a popular investment product that lets you set aside an amount of money for a specific period of time and get your principal plus interest payments upon redemption. While less flexible than alternatives like money market accounts or a regular savings or checking account, a CD can be a good option for goals such as an emergency fund or down payment. But before choosing CD investments, you’ll want to learn how CDs work, which options you have and what the account opening process involves.
Why Use Certificates of Deposit?
If you don’t mind making a fixed deposit that will be held through the maturity date, CDs offer several benefits that make them appealing.
Unlike stocks and bonds, CDs come with low risk since you usually don’t have to worry about losing your principal. The Consumer Financial Protection Bureau mentions up to $250,000 of your funds are protected as long as you use an insured bank or credit union. In addition, the Federal Deposit Insurance Corporation shows that some CDs pay higher interest rates than comparative low-risk savings products, and the interest is usually predictable.
At the same time, you should be aware that CDs have some limitations such as early withdrawal penalties if you need the money before the term runs out. The issuing bank can also set requirements like a minimum deposit amount. Lastly, interest rates vary for short-term versus long-term CD options at different financial institutions, and they may be too low to help you beat inflation.
While less flexible than alternatives like money market accounts or a regular savings or checking account, a CD can be a good option for goals such as an emergency fund or down payment.
Considering Types of CDs and Strategies
If CDs sound right for you, consider the various types available. For example, traditional CDs are most common, but you can find high-yield CDs offering better rates, bump-up CDs featuring interest rate increases and liquid CDs allowing for penalty-free early withdrawals. Investor.gov also highlights brokered CDs you can get from brokerage firms that come with higher risk but also possibly higher gains.
You can opt for an individual CD or spread your money out using a CD ladder or barbell strategy. According to Fidelity, a sample CD ladder might feature five CDs with equal deposits and staggered maturity dates of one to five years. A CD barbell, on the other hand, can involve splitting your money between short-term and long-term CDs. In either case, you can benefit from higher interest rates with longer-term CDs but retain some liquidity with shorter-term CDs.
You can research financial institutions to see available CD options as well as meet with a financial advisor for recommendations on strategies for your financial planning needs.
Opening a CD Account
Before opening this type of savings account, you'll need to select the appropriate CD type and look for institutions offering the best CD rates. You’ll see the interest rate stated as the annual percentage yield (APY). It can vary depending on the term length, CD type, issuer, amount invested and other factors, explains Discover.
While researching, also pay attention to minimum deposit amounts, term length options and early withdrawal penalty conditions. In addition, consider protection such as using an FDIC-insured bank to save your money.
You can then start the CD application online or at a local financial institution. Centier Bank shows that the process is much like opening a regular bank account. You’ll provide your basic financial and personal information, fund the account with a check, cash or bank transfer, and sign some documents. Once your account is open and funded, interest will start to accrue depending on the bank’s terms. You can usually monitor the account online.
Managing Your CD
In most cases, you can simply leave your CD funds alone and then get the cash and interest back at maturity. Your financial institution usually doesn’t allow for any additional deposits during the term unless you have an add-on CD, but you can usually make withdrawals early as long as you’re willing to pay a penalty. The CFPB notes you have multiple options when the maturity date arrives such as renewing the CD, rolling over the funds or making other changes to the account.
- Consumer Financial Protection Bureau: What Is a Certificate of Deposit (CD)?
- Federal Deposit Insurance Corporation: National Rates and Rate Caps
- Investor.gov: Certificates of Deposit (CDs)
- Fidelity: Model CD Ladders
- Discover: 6 Factors That Could Influence CD Interest Rates
- Centier Bank: CD Application
- Consumer Financial Protection Bureau: What Is a Certificate of Deposit (CD) Rollover or Renewal?
- If you like the CD and the rate and want to keep your money in it past the maturity date, inquire about automatic renewal of the CD. Many banks offer this service in order to keep your money with them. Remember, if you chose to renew, you will have to wait until the next maturation date to withdraw the funds.
- CDs are not like money market accounts. Once you deposit your money into the account, you will not be able to get it back until the CD matures unless you are willing to pay a penalty.
Ashley Donohoe has written about business and technology topics since 2010. Having a Master of Business Administration degree, bookkeeping certification and experience running a small business and doing tax returns, she is knowledgeable about the tax issues individuals and businesses face. Other places featuring her business writing include Zacks, JobHero, LoveToKnow, Bizfluent, Chron and Study.com.