Right now is a great time to open a certificate of deposit (CD). The best CD rates are topping 5% APY, and you might be considering switching your savings from a savings account to a CD instead. This can certainly be a good move for some of your cash -- but perhaps not all of it. Let's take a closer look at what you can expect if you abandon your savings account and go all-in on CDs.
You get to lock in your rate...
The biggest benefit to moving money from a savings account to a CD is that the rate on your account won't fluctuate. Instead, it'll be fixed for the duration of your CD's term, be it six months, one year, or even five years. This makes CDs a good investment in a high-interest-rate environment that is predicted to change, much like we're in now.
The Federal Reserve hiked the federal funds rate a whopping 11 times in an attempt to bring down the soaring inflation we experienced in the wake of COVID-19. These rate hikes seemed to have had an effect, as the rate of inflation for January 2024 was 3.1% -- down 6 percentage points from 9.1% in June 2022.
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But consequently, many experts believe that rate cuts are on the horizon for later in 2024. When this happens, we can also expect rates on savings accounts and CDs to fall. The rates on consumer bank accounts are not directly linked to the federal funds rate, but the two tend to move in concert.
Locking in a rate on a CD is a great way to earn a guaranteed return on your money, and if you can leave your money alone for the duration of the CD's term, you'll know exactly how much money you'll end up with. Say you put $10,000 into a 1-year CD with an APY of 5.00%. At the end of that year, you can look forward to having earned $250 -- just for leaving your money alone. But what if you need that cash before the term is up?
...but you have less access to your money
The biggest drawback to moving money from a savings account to a CD is that you'll have to leave it in place for the duration of the CD's term. If you need to break into your CD early, you'll incur penalties like forfeiting some of the interest you would have earned.
These penalties vary depending on the bank that holds your CD, but let's say the early withdrawal penalty on your $10,000 1-year CD amounts to six months of interest. That comes out to $125 (half of the $250 you would have earned). But if you need to access your money before six months have gone by, you wouldn't have even earned that $125 yet and would be facing the loss of some of your $10,000 principal.
This lack of flexibility is why you should think long and hard before locking your money up in a CD. If you've got a pot of money earmarked for a future use with a set timeline (say, a home purchase in 18 months), a CD might be a great place for it. The money will grow at a fixed rate, and it'll be safe from both bank failure (via FDIC insurance) and also potentially you dipping into it for other expenses.
Might you regret locking all your money in a CD?
If you have money that has no set use or timeline (like your emergency fund, which should always be at the ready and accessible), you might regret putting it into a CD. A savings account (or even a money market account) is a much better place for this money.
And if you're still actively saving, an account that lets you continually add money is also a better idea. Once your CD is open and funded, you won't be able to deposit more cash into it. But savings and money market accounts can accept deposits anytime.
CDs have some advantages over savings accounts -- the ability to lock in a high rate is a big one. But don't assume that you won't still need a savings account even if you open a CD or two.
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FAQs
You get to lock in your rate...
What is the biggest negative of putting your money in a CD? ›
Banks and credit unions often charge an early withdrawal penalty for taking funds from a CD ahead of its maturity date. This penalty can be a flat fee or a percentage of the interest earned. In some cases, it could even be all the interest earned, negating your efforts to use a CD for savings.
How much does a $10000 CD make in a year? ›
Earnings on a $10,000 CD Opened at Today's Top Rates
| Top Nationwide Rate (APY) | Balance at Maturity |
|---|
| 6 months | 5.76% | $ 10,288 |
| 1 year | 6.18% | $ 10,618 |
| 18 months | 5.80% | $ 10,887 |
| 2 year | 5.60% | $ 11,151 |
3 more rowsNov 9, 2023
One major drawback of a CD is that account holders can't easily access their money if an unanticipated need arises. They typically have to pay a penalty for early withdrawals, which can eat up interest and can even result in the loss of principal.
Why use CD instead of savings account? ›
A certificate of deposit offers a fixed interest rate that's usually higher than what a regular savings account offers. The tradeoff is you agree to keep your money in the CD for a set amount of time, typically three months to five years.
What are 2 drawbacks of putting your money in a CD? ›
CDs offer higher interest rates than traditional savings accounts, guaranteed returns and a safe place to keep your money. But it can be costly to withdraw funds early, and CDs have less long-term earning potential than certain other investments.
Can I lose my money in a CD account? ›
Standard CDs are insured by the Federal Deposit Insurance Corp. (FDIC) for up to $250,000, so they cannot lose money. However, some CDs that are not FDIC-insured may carry greater risk, and there may be risks that come from rising inflation or interest rates.
How much does a $20000 CD make in a year? ›
That said, here's how much you could expect to make by depositing $20,000 into a one-year CD now, broken down by four readily available interest rates (interest compounding annually): At 6.00%: $1,200 (for a total of $21,200 after one year) At 5.75%: $1,150 (for a total of $21,150 after one year)
Do you have to pay taxes on CD interest? ›
Interest earned on CDs is considered taxable income by the IRS, regardless of whether the money is received in cash or reinvested. Interest earned on CDs with terms longer than one year must be reported and taxed every year, even if the CD cannot be cashed in until maturity.
Why you should put $15,000 into a 1 year CD now? ›
Unlike traditional or high-yield savings accounts, which have variable APYs, most CDs lock your money into a fixed interest rate the day you open the account. That's why if you suspect that interest rates will soon drop, it can be a good idea to put money in a CD to preserve the high APY you would earn.
Are CDs safe if the market crashes? Putting your money in a CD doesn't involve putting your money in the stock market. Instead, it's in a financial institution, like a bank or credit union. So, in the event of a market crash, your CD account will not be impacted or lose value.
Can you live off CD interest? ›
There are a few different ways to invest your money to earn interest and live off of that income. The most popular investments are bonds, certificates of deposit (CDs) and annuities. The interest that you'll earn will depend on the amount of money you have in your account when you go to live off of that interest.
Is a 12 month CD worth it? ›
A one-year CD typically offers a higher interest rate than shorter-term CDs, such as three-month CDs and six-month CDs. Offers higher interest rates than traditional savings accounts.
Why would someone put their money in a CD instead of other investments? ›
Unlike most other investments, CDs offer fixed, safe—and generally federally insured—interest rates that can often be higher than the rates paid by many bank accounts. And CD rates are generally higher if you're willing to sock your money away for longer periods.
What is the catch with putting your money in a CD? ›
Limited liquidity: A CD is a time-bound investment. You'll likely face a penalty if you need to withdraw your money before the maturity date. This can be a few months' interest or even bite into your principal, depending on the CD's terms. As a result, they're not ideal for those who need quick access to their funds.
What are disadvantages of CD? ›
There are also some disadvantages to using CD-ROMs. These include: Limited storage capacity. While CD-ROMs have a large storage capacity compared to floppy disks, they are still limited compared to other storage options like USB drives and hard drives. Fragility.
Are money CDs safe if the market crashes? ›
Yes, CDs are generally still safe even if a stock market crash occurs. CDs are a type of bank account. Many accounts offer a set rate of return for a specific timeframe that won't fluctuate.
Is it worth putting money in a CD right now? ›
CDs are worth investing in for risk-averse investors who want to keep their money safe while maintaining more of its purchasing power. Although you have to lock your money away for a specific amount of time, the payout from a long-term CD can be enticing. For example, Quontic offers a 5.05% APY on their six-month CD.
