What Is a CD (Certificate of Deposit)?

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If you’re considering how to make more on your money than you get from a typical savings account, certificates of deposit can be a good option. However, they’re not right for everyone. Here’s what you need to know to help you decide whether putting your money in a CD is the right choice for you.

What Is a CD?

A certificate of deposit is a safe, income-generating investment that earns interest for a set period of time, also known as a term. The term is the length of time you agree to leave your money deposited in the CD. If you leave your money untouched for the entire term, you will not risk any penalties. Terms can vary in length, so be sure you will be comfortable without those funds for the full duration. When the term ends, the CD has matured, and you can withdraw your money penalty-free.

Here are some key takeaways on CDs:

• CDs typically offer higher interest rates than savings and money market accounts in exchange for leaving the funds untouched for the fixed term length.
• CDs are ideal if you have extra cash that you won’t need for an extended period and want to earn more interest than you would from a money market or savings account without having to risk the principal investment.
• Almost every bank or credit union offers a variety of CD options. But be sure to research which place is offering what, since some of the best CD rates can be over three times higher than the national average rates.
• Compared to more volatile investments such as stocks, CDs are considered safer and more conservative. There may be less reward, but there is less risk with a guaranteed rate of return.

Choosing a CD Account

First, you’ll need to determine which bank you want to use for your CD account. When considering banks, compare interest rates and maturity times to make sure you’re getting the most out of your CD. Almost all major financial institutions offer CDs. However, terms will vary by location. Additionally, CD rates change, so be sure to check current rates before you make your decision.

Most banks will have a minimum amount you can place into a CD, which can vary with the term of the CD and the interest rate. For instance, a bank might offer:

• A 12-month CD at 5.30% APY; minimum: $500
• A 24-month CD at 4.50% APY; minimum: $500
• A 36-month CD at 4.00% APY; minimum: $500

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You’ll decide how much you want to deposit into the CD, open the CD account and then deposit the money. That money will stay locked in for the entire duration of the CD. Once the CD matures, you have the option of withdrawing the money you deposited — along with the promised interest.

If you bank with a credit union, your credit union’s CD products might be referred to as share certificates.

A number of different types of CDs are available, as well as various strategies to maximize your earnings. So before you tie up your extra cash in a CD, learn about all the options to find out which CD might be right for you.

How Is a CD Different From a Savings Account?

When debating where to put your money — whether it is in a savings account or a certificate of deposit — it is important to know the subtle differences. Both are considered a safe way to treat your savings, but each has nuances. Whereas a savings account will allow you to withdraw funds any time you need to, a CD will not let you touch the funds for the entirety of the term under the risk of fees or loss of interest earned. 

Withdrawal Restrictions

A CD may charge significant penalties if you take out the money before its maturity date, ranging from a few months’ interest to all of the interest earned.

Savings accounts don’t usually have the same withdrawal restrictions as CDs. You can access the money whenever you’d like, but many banks prohibit more than six transactions of a certain kind each month.

Higher Interest Rates

CDs often pay more in interest, although online savings accounts are becoming quite competitive with CD rates. In many instances, you can earn more by locking your money in a CD than you can by depositing your money in a more liquid savings account.

Keep in Mind

If rates increase while your money is invested in a long-term CD, you’re essentially stuck with the rate you have until maturity. However, an exception would be if you invest in a variable-rate CD. Additionally, although you can withdraw money from a traditional CD at any time, you’ll get hit with the early withdrawal penalty, which varies from bank to bank.

Why Would You Open a CD?

CDs can be considered a good investment for those looking for low risks and steady returns. Here are the major benefits of a certificate of deposit:

• Low risk: As long as you keep your money in a CD, you’re guaranteed the interest.
• Insurance: CDs carry insurance of up to $250,000, just like savings and checking accounts.
• Steady returns: Some CDs pay a very competitive rate, especially when compared with other interest-bearing deposit accounts, like savings accounts. You can use a CD rate calculator to compare your options.

As for how much money you should put in a CD, it depends. Limit your investment to an amount you don’t need to keep liquid.

When You Might Not Want To Put Your Money in a CD

Although a CD is often the best option if you want higher interest and are willing to leave your money untouched for the duration of the term, a high-yield savings account may be better if flexibility is important. For example, if you’re working on building an emergency fund, which you might need to access, a high-yield savings account is a better option than a CD because you’ll incur a penalty if you have to access the money in your CD before it matures. And if you don’t need liquidity for a while, bonds and stocks may be better yet.

Are CDs Safe?

Like many other financial vehicles, CDs at banks are FDIC insured up to $250,000; you can’t lose money in a CD any more than you can in a savings account. Because they come with a guarantee, they are as safe as a checking account or savings account.

The risk inherent to a CD is that you may need to cash it out before it reaches maturity; if you do so, you could lose a significant amount of the interest you had gained.

What Are the Types of CDs?

Almost as many types of CDs exist as there are types of savers. Use this guide to help narrow your search and find the type of CD that will best suit your financial goals.

Here are some of the types of CDs that are available:

• Add-on CD: Allows you to make additional deposits during the CD’s term
• Bump-up CD: Allows you to bump up to a higher interest rate if rates go up, but usually, only one rate increase is allowed
• Callable CD: In return for a higher interest rate, allows the bank to redeem the CD before maturity, pay the principal and interest to you and close the account
• High-yield CD: Offers some of the highest interest rates available on the market
• Jumbo CD: Requires a larger investment — usually $100,000 minimum — but pays higher interest rates
• No-penalty CD: No fee charged for early withdrawal, but usually pays a lower interest rate
• Step-up CD: Allows you to lock in your interest rate for a period, and your rate will increase over the term

The intricacies of each CD account will depend on the managing institution.

CD Strategies

If you’re looking for a little more bang for your buck when it comes to investing in CDs, consider a CD investment strategy. Rather than simply buying a single CD, you can invest in a range of CDs to help you achieve your investment goals.

Three strategies in particular — the CD ladder, CD barbell and CD bullet — offer different ways to enhance the return on your CDs.

CD Laddering

CD laddering is a way to keep your investment somewhat liquid and can result in higher growth rates.

To create a CD ladder, divide up your total investment into smaller sums, buying CDs of varying terms. For example, instead of buying one CD worth $30,000, you might buy three $10,000 CDs — one each at six-, 12- and 18-month terms. By doing this, one-third of your money becomes liquid every six months.

In addition to added liquidity, this strategy also allows you to maximize interest rates because, upon the second round, you are always investing in longer-term CDs.

CD Bullet

Another strategy is a CD bullet, in which you buy CDs that have the same maturity date at different times. So, the first year, you buy a 10-year CD, the second year you buy a nine-year CD and so on.

CD Barbell

Under the CD barbell strategy, you put half your investment into short-term CDs and half into long-term CDs. With this strategy, you’ll have some flexibility with the short-term investments while getting better interest yield with the longer-term accounts. Overall, you’ll get a medium yield average.

Key Takeaways

There’s a lot to know about certificates of deposit, so here are the highlights:

• CDs typically offer higher interest rates than most savings accounts.
• In exchange for high interest, CDs require you to keep your money in the bank for a specified term.
• There are a few strategies, such as CD laddering, that can be used to increase the utility of CDs.
• Like saving and checking accounts, CDs at banks are protected by the Federal Deposit Insurance Corp.
• A CD is a good investment if you are looking to earn higher interest on your savings and are good with not touching that money for a fixed amount of time. It is a good way to get a guaranteed rate of return on your deposit.

Explore More on CD Accounts

• How To Open a CD Account in 4 Simple Steps
• How Do CDs Work? Start Stacking Your Savings
• How Much Money Should You Keep in a CD Account?
• What Is a CD Ladder? What You Need To Know
• Pros and Cons of CD Accounts

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Cynthia Measom and Caitlyn Moorhead contributed to the reporting for this article.

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