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A standard certificate of deposit (CD) is a unique savings account that banks and credit unions offer separately from traditional savings accounts. CDs usually offer higher interest rates than regular savings accounts because you must leave your funds in your account until its specified maturity date.
But a traditional CD isn't the only type of CD you can leverage to progress toward your savings goals. Financial institutions offer a wide range of CD options to choose from, including jumbo CDs and IRA CDs. Let's examine the features of seven types of CDs to help you determine which may provide you with the most benefit.
1. Traditional CDs
A traditional certificate of deposit is the standard CD account with a fixed-term maturity period, typically ranging from three months to five years or longer. In return for leaving your money in your account, the financial institution pays you interest, usually at a higher rate than a traditional savings account. Typically, the longer your CD term, the higher your yield.
CDs can be a reliable savings option because they're insured by the Federal Deposit Insurance Corp. (FDIC) for up to $250,000 per owner and are considered a reliable option for savings. As such, traditional CDs can benefit anyone looking for better savings rates than traditional savings accounts provide. Generally, you can't lose money with an FDIC-insured CD unless you withdraw funds before your account's maturity date.
The biggest drawback, however, is that your money is tied up. So if interest rates rise or you need to pull money out of your account for an emergency, you could incur penalties or lose out on potential earnings.
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2. No-Penalty CDs
As their name suggests, no-penalty CDs differ from traditional CDs because they allow you to make withdrawals before your CD's maturity date without triggering a penalty. In this way, no-penalty CDs, also known as liquid CDs, operate like a savings account but with an interest rate that doesn't change.
As you might expect, the annual percentage yield (APY) on a no-penalty CD usually lags behind that of a traditional one. But these CDs are attractive to savers who want the flexibility to withdraw funds from their accounts if needed. This feature could come in handy if interest rates rise before your no-penalty CD matures. In that case, you could move your funds to a CD with a higher yield. Conversely, if interest rates drop, you can rest easy knowing your funds continue to earn at a higher, fixed yield.
3. Jumbo CDs
Jumbo CDs, also known as high-interest CDs, offer higher interest rates than traditional ones but require a much larger minimum deposit, typically at least $100,000. Like standard CDs, jumbo CDs have a fixed interest rate and a designated maturity date. The most significant advantage of a jumbo CD is that it usually offers higher interest rates due to the larger deposit, allowing you to earn more on your investment. However, if you withdraw funds before the maturity date, you'll likely incur a penalty.
Jumbo CDs are most beneficial for those with significant savings and large deposits who are seeking a low-risk investment. However, be aware that jumbo CDs, like other types of CDs, are insured by the FDIC up to $250,000 per account holder per bank. That means large deposits over that amount may only be partially insured.
4. Bump-Up CDs
With a traditional CD, the interest rate remains the same until its maturity date, which works to your advantage when interest rates fall since you're locked in with a higher yield. However, when interest rates rise, you could miss out on a higher return if your money is tied up in a lesser-earning CD.
But some CDs, including bump-up CDs, allow you to change your interest rate. If the CD issuer raises the rate on the same term CD after yours is opened, you can change or "bump up" your rate to the current market rate. However, most CD issuers only allow you to exercise this option once, but some long-term CDs may allow for more adjustments.
This type of CD can help you take advantage of rising interest rates during your CD's term, but they often offer lower rates than CDs that don't feature a rate adjustment. As such, before you sign up for a bump-up CD, shop and compare rates to ensure you're getting a competitive yield.
5. Step-Up CDs
Like a bump-up CD, this type of CD requires you to leave your money in your deposit account for a fixed period at a specific interest rate. And both types of CDs allow you to earn higher rates during your term. But with step-up CDs, the increase is automatic and happens at scheduled intervals, such as every six months or annually.
A step-up CD can be a good option if you anticipate interest rates will rise during your CD's term since it guarantees a periodic rate increase. The primary drawback is that the starting interest rate can be lower than a traditional CD, so if interest rates don't rise, you could earn less over the term of your CD.
6. Brokered CDs
Brokered CDs differ from most types of CDs because you must purchase them through a broker or brokerage firm, not a bank or credit union. These CDs offer numerous benefits, such as higher yields than standard CDs and the ability to hold multiple CDs in one brokerage account rather than opening individual CDs from several different banks. Additionally, you may be able to access your money before your CD matures since brokered CDs let you sell the CD on the secondary market without a penalty.
As with most investment assets, brokered CDs carry a certain degree of risk. With brokered CDs, the brokerage's CD purchase from the issuing bank is FDIC insured, but your CD purchase might not be. Contact your brokerage or refer to your account documentation to confirm your deposit is FDIC insured. Another downside to brokered CDs is that they may be callable, which means the issuing bank can end the CD before its maturity date. In such a scenario, you wouldn't lose your deposits and earnings to date, but you would lose out on potential future earnings.
7. IRA CDs
You can open and hold IRA CDs within an individual retirement account (IRA) to receive higher interest rates than other savings vehicles and the tax advantages of an IRA, such as tax-deferred or tax-free growth.
As with a traditional or Roth IRA, you can add new funds or roll over funds from an existing retirement plan. If you're using new funds, IRS annual contribution limits apply—$6,500 in 2023, with an additional retirement catch-up contribution of $1,000 if you're age 50 or older. There are no contribution limits if you roll over funds from another IRA.
You should only open and contribute to an IRA CD if you're confident you won't need to access the funds until you retire. That's because a CD and an IRA both restrict your access to your account funds until a future date. Making an early withdrawal could spell double trouble since you might incur two penalties, a CD early withdrawal penalty and potential tax penalties and fees.
The Bottom Line
Deciding which CD is best for you depends on your unique financial situation and goals. CDs may benefit you if you have a significant amount of money you won't need anytime soon. They offer higher earnings than a traditional savings account and come without the increased risks of stocks and bonds investing.
Before you sign up for any CDs, ensure you understand the terms by which you can access account funds if you need to. The last thing you want is to incur penalties that offset your earnings if you need to withdraw funds from your CD. If you want higher earnings and the flexibility to access your money in a pinch, consider getting a high-yield savings account from an online bank. These accounts offer rates comparable to most CDs, but often 10 times higher than a traditional savings account.