Certificate of Deposit (CD)

Certificate of Deposit (CD)

What is a CD?

A certificate of deposit (CD) is a time-deposit savings product offered by banks and credit unions. You deposit a fixed sum for a set term (commonly 3 months to 10 years) and receive a guaranteed interest rate for that term. In exchange for the fixed return, you generally cannot withdraw the funds without paying an early withdrawal penalty.

Key takeaways

• CDs pay a fixed, predictable rate and are typically safer than stocks or bonds.
• Rates can be higher than savings or money market accounts, but access to funds is limited.
• Most CDs are federally insured (FDIC for banks, NCUA for credit unions) up to applicable limits.
• Shop for rates, check early withdrawal penalties, and consider term selection relative to expected interest-rate moves.

How CDs work

When you open a CD you agree on:
* Principal: the amount you deposit.
* Term: the length of time funds must remain on deposit.
* Interest rate / APY: usually fixed for the term and often compounded daily or monthly.
Interest is credited to the CD balance as specified and is taxable as ordinary income in the year it is posted.

Common CD types

• Fixed-rate CD — interest rate stays the same for the term.
• Variable-rate CD — rate changes with a benchmark or index.
• Bump-up CD — lets you increase the rate once during the term.
• Jumbo CD — requires a large minimum deposit (e.g., $50k+) and may offer higher rates.
• Brokered CD — bought through a brokerage; may be tradable on secondary markets.
• Callable CD — issuer can redeem the CD early under specified conditions.
• Liquid/no-penalty CD — allows penalty-free withdrawals (usually at lower rates).

Pros and cons

Pros:
* Predictable, guaranteed return.
* Generally higher yields than basic savings accounts.
* Low risk; typically federally insured up to limits.
* Useful for saving toward a known future expense.

Cons:
* Funds are locked until maturity unless you pay a penalty.
* Returns usually lower than long-term stock or bond returns.
* Fixed rates can be disadvantageous if market rates rise.
* Some CDs offer very low rates—shopping is important.

Maturity and what to do with proceeds

At maturity you can:
* Redeem and move funds to another account.
* Roll over into a new CD (institutions often default to this if no instruction is given).
* Transfer to another account at the same institution (savings, checking, MMA).
Avoid automatic rollovers without checking current market rates—rates offered at rollover may be lower than the best available elsewhere.

Choosing a CD term

Consider:
* Your time horizon and when you’ll need the money.
* Interest-rate expectations: if rates are likely to rise, prefer short-term CDs or a high-yield savings account; if rates are likely to fall, locking in a long-term CD can be advantageous.
* Alternatives such as variable-rate or bump-up CDs if you want some protection against rising rates.

Minimum deposits and jumbo CDs

Minimums vary by institution—some CDs open with $100–$1,000. “Jumbo” CDs require much larger deposits and may sometimes pay higher rates, but not always.

Where to find the best rates

CD rates vary widely among banks, credit unions, and brokerages. Shop beyond your current institution and compare APYs and penalties. Pay attention to the macro interest-rate outlook when choosing term length.

Are CDs safe?

Yes—CDs are among the safest deposit products:
* Bank CDs: insured by the FDIC up to applicable limits.
* Credit union CDs (share certificates): insured by the NCUA up to applicable limits.
Confirm the institution’s insurance status and your total exposure per ownership category.

CDs vs. savings and money market accounts

• Savings/MMA: allow ongoing deposits and withdrawals; more liquidity.
• CDs: single deposit, fixed term, generally higher rates in exchange for restricted access.

Early withdrawals and penalties

Most CDs impose an early withdrawal penalty, typically expressed as several months’ interest (e.g., 3–12 months), depending on term length. Some rare penalties are a flat percentage that can exceed interest earned and even reduce principal—avoid those when possible. Always review the early withdrawal terms before opening a CD.

CD ladders

A CD ladder staggers maturities to balance yield and liquidity. Example: with $25,000 and five rungs, buy 1-, 2-, 3-, 4-, and 5-year CDs ($5,000 each). When the 1-year CD matures, reinvest it in a new 5-year CD. Repeat annually to maintain access each year while ultimately holding longer-term, higher-yielding CDs.

Benefits:
* Regular access to funds.
* Ability to reinvest at prevailing rates as rungs mature.
* Reduced reinvestment risk compared with locking all funds in a single long-term CD.

How CD rates are set

CD rates are influenced by the federal funds rate and general interest-rate environment. When the Federal Reserve’s benchmark rate rises or falls, deposit rates tend to follow over time. Individual institutions also set rates based on competition and funding needs.

Tax treatment

Interest earned on CDs is taxable as ordinary income in the year it is credited to your account (even if you don’t withdraw the money). The issuing institution will report interest to you for tax filing.

Frequently asked practical questions

Can you lose money on a CD?
* Not from issuer default if the CD is within federal insurance limits; principal and agreed interest are protected accordingly. Market price fluctuations can affect brokered CDs if sold before maturity.

Can you add funds to a CD?
* Typically no. Some issuers allow additional deposits during a brief grace period after opening; otherwise you must open a new CD.

Should you let a CD roll over automatically?
* Usually not without shopping around—rates at automatic rollover may be below current market best offers.

Is there any CD with no early withdrawal penalty?
* Yes, no-penalty CDs exist but usually offer lower rates.

Conclusion

CDs provide a conservative, predictable place to park cash for a defined period, often with higher yields than basic savings accounts and the protection of federal insurance. The main trade-offs are reduced liquidity and potential opportunity cost if rates rise. Compare APYs, terms, and early withdrawal penalties, consider laddering for staggered access, and choose the CD type and term that match your goals and rate outlook.