A Certificate of Deposit is a savings account that has a fixed term. You earn a fixed interest rate for a fixed amount of time on the funds you put into it.
What is a Certificate of Deposit?
A certificate of deposit (CD) is a type of savings account you invest an amount of money in for a fixed amount of time. You have an interest rate higher than standard savings accounts, but you don’t have access to your funds until the term ends.
When you agree to put your money in a CD generally you are agreeing to keep your money in the CD without taking a withdrawal for a specified length of time. If you withdraw your money early, you are most likely going to incur a penalty fee to the bank.
Are Certificate of Deposits Insured?
Like regular savings accounts, certificates of deposits are insured up to $250K by the FDIC or NCUA.
What are some benefits of a CD?
If you are looking to earn more interest than a regular savings account and have funds that you don’t need right away and can afford to have the funds temporarily unavailable to you.
CD’s are great for people who are tempted to dip into their savings. If you are one to tell yourself you will repay it, but then don’t. Having the money in a CD will earn interest, but also keep you from spending it. Putting the money in a CD keeps the funds safe, while earning interest.
How much can I earn in interest on a CD?
The amount f interest you earn will be based on the current interest rates offered at the time of the investment. It will also depend on how much you invest and for how long.
Here is an example of the interest you can earn in a CD vs. standard savings account.
If you deposited $5000 into a regular savings account with an annual percentage rate (APR) of 0.33%, in 12 months you would earn $16.50 on those funds. If you were to take the same $5000 and deposit it into a CD for 12 months at an interest rate of 4.5%, you would earn $225. That is what I like to call passive income, or money you didn’t have to work hard for.
How do I choose if a CD is right for me?
There are a few things to consider to help you make your decision.
- CD Term – Many CD’s have term length options from three months to five years. Typically, the longer the term the higher the interest rate.
- CD Type – There are various types of CD’s.
- No-penalty: Some CD’s have no penalties for early withdrawals, known as “liquid CD”. They typically have a lower interest rate than a standard CD.
- Bump-up CD – In a Bump-up CD you usually can jump to a higher interest rate during the term of the CD. You need to stay on top of the rate jump option and ask for it during the term.
- High-yield CD – They have higher rates than traditional CD’s and are a safe place for you funds due to deposit insurance.
- IRA CD – This is a regular CD that is help in a tax advantage individual retirement account.
- CD Rate – Once you know what type and term of the CD you can then shop banks and credit unions to find a competitive rate. You may decide to go with the bank you are already hold accounts at, or you may choose a new financial institution.
- CD Amount – The amount of money you decide to put into a CD depends on your savings goals. You want to make sure you will be able to go without access to the funds for the term you decide. Another factor for determining the amount you want to invest into the CD is what is the minimum deposit requirement.
What happens when the CD reaches its term?
When you are opening the CD it is important to find out what the terms are of the CD. Length of the term, interest rate and what happens at the end of the CD term. Usually there is a grace period of about a week, which you can withdrawal the funds. After that time elapses, many CD’s will automatically renew for the same or similar term that the previous CD had. The rate for the new term if it were to auto-renew will renew at the current CD term rates.
How do I decide the term length for the CD?
Plan based on your expected needs. Ask yourself if you have specific plans for the funds and a specific time you need those funds, that can help you determine the length term you want to do.
Take aways!
- Evaluate your savings goals to determine if a CD is the right way to invest your money.
- Make the best effort to leave the money invested. Doing so will help you avoid penalties and earn interest.
- Have a plan for when the CD reaches term. Decide and make sure you make note of when the term ends and have a plan for the funds.
- Decide if you want to roll it into another CD at the current financial institution or move to a different one.
- You have the option to transfer the funds into another account, such as a High Yield Savings or Money Market Account.
- You may request to withdrawal the proceeds of the investment and renew the CD with the original funds deposited or close out the CD all together.
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