What Is an Add-On Certificate of Deposit (CD)?

What Is an Add-On Certificate of Deposit (CD)?
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Suppose you want to start saving to make a down payment for a house, have money to pay tuition for additional education or save for you and your spouse to make a holiday trip to Japan. You could start with a money market account or savings account, but these pay very low interest rates. Regular certificates of deposit (CDs) pay higher rates but have higher opening deposit requirements, are for fixed amounts and your funds could be locked up for several years.

So, what is a good way to accumulate money and earn the best return while meeting your savings goals and having access to your funds when you need the money?

One convenient way to solve a lot of these problems is to include an add-on CD in your savings plan.

What Is an Add-On CD?

An add-on CD is a fixed-term certificate of deposit that allows you to make additional deposits at various times before its maturity. This is different from a regular CD where you make an initial deposit and cannot make any changes until it matures.

The interest rate on an add-on CD is locked in, like a traditional certificate of deposit, for the term of the CD. Additional deposits earn the same interest as the original rate when the CD was opened.

Maturities for add-ons can range from six months up to five years. Minimum deposits required to open an account go from $5 to $500. As with normal certificates of deposit, early withdrawal penalties will apply if you take money out before the maturity of the CD. You could forfeit all or part of the interest earned up to the date of early withdrawal.

Pros of Add-On CDs

Add-on CDs have several important advantages for an investor:

  • Can add more money to the account at any time
  • Good hedge tool when interest rates are flat or declining
  • Will usually pay higher rates than savings accounts or money market accounts
  • Convenient to set up a monthly savings plan with regular contributions to add-on CD
  • FDIC insured for banks, or if a federal credit union, insured by the National Credit Union Insurance Fund
  • No maintenance fees (except for IRA accounts)

Cons of Add-On CDs

However, they also have several drawbacks:

  • Money is tied up for the term of the CD
  • Early withdrawal penalties
  • Interest rate is locked in, preventing you from getting higher rates if market goes up

Add-On CDs Vs. Savings Accounts and Money Market Accounts

An effective, well-balanced saving strategy might include a savings account, a money market account, regular fixed certificates of deposit and add-on CDs.

First, you’ll want to have a comfortable amount, like several months of normal expenses, set aside in a savings or money market account for emergencies. According to Federal Regulation D, you can make up to six withdrawals per month from savings and money market accounts without any penalties.

Then, depending on your view of the direction of interest rates, you can start investing your funds for longer periods of time in certificates of deposit to earn higher interest rates. If you believe that interest rates are going to stay flat or decline, this would be a good time to start putting your money in an add-on CD with a longer maturity of say three or more years.

If you see that interest rates are going up, you may want to invest in a series of certificates of deposit, known as a CD ladder, with short-term maturities, like six months. This way, you would have funds coming available every six months to roll over into higher fixed-rate CDs.

How to Choose an Add-On CD

Ideally, you would like to have your add-on CD meet the following conditions:

  • Low opening balance requirement
  • Term of three or more years
  • Competitive interest rate compared to regular CDs with similar maturities
  • Allow unlimited additional deposits at any time with no maximum

Unfortunately, it's difficult to find a single add-on CD that meets all these requirements. You have to consider each one to make sure the terms align with your spending and savings goals.

In addition, you’ll want to shop around for the best rate. Financial institutions are constantly changing their rates depending on the demand for funds and their expectations about the trend of interest rates.

Examples of Add-On CDs

Vibrant Credit Union offers a 5-year CD with unlimited deposits of $5 or more at any time. You only need $5 to open an account. This is one of the longest maturities for add-on CDs on the market.

You can open an account at Associated Bank with only $100. With their add-on CD, you can add additional deposits for any amount at any time. However, they only offer one add-on CD, and it has a term of one year. This is a very short maturity to take full advantage of an add-on CD.

Bank5Connect offers a 24-month add on CD with a minimum of $500 to open an account. You can add funds to it at any time.

First Horizon Bank has a different type of add-on CD. You will need $500 to open an account. Their add-on CD only has a six-month maturity, but it automatically renews at each maturity date. The bank has two rate tiers: one for deposits less than $25,000 and another that pays higher rates for amounts in excess of $25,000. Additional deposits must be at least $25 and can be made at almost any time.

Pen Air Federal Credit Union offers a 15-month add-on CD with a minimum opening deposit of $500. Additional deposits can be made at any time and in any amount. The bank also offers this add-on CD for IRA accounts.

Bank of the West offers an add-on CD but limits it to IRA accounts. You'll need $100 to open an account, and you will pay an annual fee of $12. Their CDs have 12-month maturities and you can make additional deposits of $100 or more but are subject to the annual limitations of contributions to an IRA.

As you can see from these examples, add-on CDs come with a wide range of choices: short-to-long maturities, low-to-higher opening balance requirements and different rates compared to regular certificates of deposits. The best choice for you depends on your particular cash flow, desired rate of savings accumulation, available cash flow for savings and your ultimate money goal.