Everyone knows that saving money is important, but not everyone knows how to save money. Budgeting isn’t all about tracking expenses in an Excel sheet (thankfully); an optimized budgeting strategy includes low-risk savings options — in other words, getting your money to work for you.
If you’ve heard the term certificate of deposit (CD) get thrown around and have no clue what that means, you’re not alone. In fact, a third of Americans have no idea what a CD is. Don’t limit your savings potential because you lack information. Instead, take a glance at the info below to see if a CD is the right money move for you.
What is a CD?
A CD is a time-based savings account, where you agree to deposit a specific amount of money and keep it there for a fixed period of time, ranging from a few months to several years. In return, your financial institution pays you interest at a fixed rate throughout that time period. At Idaho Central Credit Union, for example, we offer CDs ranging anywhere from 6 to 60 months. To make this model work effectively, early withdrawals are subject to additional fees and penalties.
Now in simple terms: When you temporarily lock away part of your savings with a CD, you earn interest back until the CD term ends. If you withdraw money early, you’ll likely face a penalty.
CDs are considered low risk because of insurance and fixed rates. If you bank at an insured financial institution like ICCU, your deposit is insured up to $250,000 by the NCUA (at credit unions) or the FDIC (at banks). The fixed interest rate and term make CDs a stable option for people who want to save money with a predictable return on investment.
CD Terms to Know
Maturity Date: The date the CD’s term is expected to end. You choose to renew or close your CD at maturity, and this decision can be made when you first open your account or when the maturity date arrives.
Grace Period: A short period after your CD matures. During this time, you can add to the principal, move your funds to other ICCU accounts, or close the CD entirely, all without penalty.
Penalty: A loss of interest for a specified number of days. The penalty for each CD may differ depending on factors like term, rate, and type.
Annual Percentage Yield (APY): The rate at which you can expect to earn interest back on your savings, assuming you don’t withdraw interest or accrue penalties.
CD Laddering: A savings strategy with multiple CDs. Savers open several CDs with gradually increasing maturity periods (i.e. one year, two years, three years, etc.) to take advantage of higher rates and better cash flow.
Automatically Renewable CD: A CD that, after completing its fixed term, immediately renews at the current standard rate.
Non-Automatically Renewable CD: The opposite of an automatically renewable CD. This type of CD immediately closes once it matures.
IRA CD: An Individual Retirement Account held in a fixed-rate CD.
Are CDs the best way to save money?
We’ve said it before and we’ll say it again: There is no single ‘best’ savings account; there are only accounts that currently best fit your goals. It’s a subtle but critical difference — what’s right for you may not be right for another member.
So instead of giving you a simple yay or nay, let’s walk through a few key factors to consider when choosing a savings account:
- Financial goals: A CD best complements a specific savings goal with a set timeline. That said, it can also enhance a long-term savings strategy, particularly if you know how to ladder a CD.
- Interest rates: While CDs often offer higher interest rates than a basic savings account, other investment options may provide higher returns.
- Risk: A CD is generally considered less risky than other savings strategies because its fixed rate offers predictability. CDs are also protected up to $250,000 by the NCUA or FDIC at insured financial institutions.
- Liquidity: Early withdrawal from a CD equals interest penalties, so if you need easy access to your money, a more liquid account might be a better option for you.
- Diversification: CDs are often successful parts of a diverse savings portfolio. To know if a CD is right for you, consider the pros and cons of a CD-only savings approach, then compare the pros and cons of CDs when they’re combined with other savings options.
- Inflation: Keep in mind that the interest earned on a CD may or may not outpace inflation, which could potentially affect your purchasing power over time.
The same principles apply to the question, “Which CD is best for saving money?” The answer depends on the length and nature of your goal, your comfort level with risk, and the other resources you’re using to manage or grow your finances.
What happens when a CD matures?
When you invest in a CD, you agree to lock in a certain amount of money for a specified period, known as the term or maturity period. When the CD matures, it means the agreed upon term has come to an end.
At this point, you have several options:
- Withdrawal: You can choose to withdraw the initial amount you deposited (the principal) along with the interest that accrued throughout your term. This gives you access to your funds.
- Renewal: Some people choose to renew the CD for another term. If you do this, your financial institution may offer you a new interest rate, which tends to be closer to the standard savings rate than your CD’s original rate.
- Changes or additions: Depending on your financial institution’s policies, you may have the option to make changes to the CD, like adding more funds or changing the terms.
These options are usually open to you during your CD’s grace period, which begins when your CD matures. An ICCU CD, for example, has a grace period of 10 days, which means members have up to 10 days to make changes to their CDs after the term ends.
It’s crucial to know your CD’s term, maturity date, and grace period length. If you don’t take any action during the grace period, your financial institution may automatically renew your CD at a lower rate. Always check with your financial institution for the details of their CD policies.
The Bottom Line
Ultimately, certificates of deposit serve as a secure and predictable savings option for people seeking stability and guaranteed returns. As you continue to explore key factors of CDs — interest rates, maturity dates, penalties, etc. — you’ll be better prepared to make financial decisions that align with your interests and goals. Whether you use a CD as a stand-alone product, include it in a diversified portfolio, or choose a different savings strategy all together, we’re here to help you make an educated decision that works for your life.