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The primary benefit of a certificate of deposit (CD) is that it can provide you with a higher rate of return than a traditional savings account. You deposit money into your CD account, where it earns interest until the CD's specified maturity date. You can then withdraw your money and the earned interest without penalty.
If you want to earn even more from a CD, you might consider getting a brokered CD. Brokered CDs are a type of CD you can purchase through a broker or brokerage firm instead of a bank. These CDs often provide higher interest rates than standard bank CDs, but they're not without risk.
What Is a Brokered CD?
A brokered CD is a type of CD banks issue to brokerage and investment firms, who then offer them to their customers. You can open a brokered CD through your broker rather than your bank.
The advantage of brokered CDs is that they typically provide a higher yield than traditional CDs. Since the broker can make a deposit substantially larger than an individual investor, the bank is willing to provide a higher annual percentage yield (APY) on its brokered CDs. Keep in mind, you may incur an intermediary fee when you purchase a brokered CD.
Another advantage of brokered CDs is their ability to get your money before the maturity date. You can avoid the early withdrawal penalty by selling the brokered CD on the secondary market, another feature not available with a standard bank CD. Be aware, however, there is the risk your CD may lose value if you sell it before maturity.
CDs are insured by the Federal Deposit Insurance Corporation (FDIC), up to $250,000 per financial institution per owner. Brokered CDs are insured indirectly through the brokerage firm. The brokerage's CD purchase from the bank is FDIC-insured, but your purchase may or may not be.
The FDIC offers information to ensure your deposit is FDIC-insured. The agency recommends asking your broker to confirm the deposit account records show the agent is a custodian for their clients' accounts and that the FDIC coverage is "pass-through" insurance for their individual account holders. It's imperative that you work with a reputable and financially responsible brokerage and to confirm with the broker that your deposit is FDIC-insured.
Another risk of brokered CDs is that they may be callable, meaning the issuing bank can terminate the CD before its maturity date. In this case, you could lose out on future earnings but not your initial investment and earnings up to the call date. Banks call CDs so they don't have to pay higher rates for the rest of the term when interest rates drop.
Pros and Cons of a Brokered CD
Brokered CDs have their benefits and downsides, which must be considered before investing in one.
Pros of Brokered CDs
- Access your money sooner. Unlike traditional CDs, which impose a withdrawal penalty when you pull your money before maturity, brokered CDs allow you to sell the CD on the secondary market without a penalty. If you run into a situation three years into a five-year CD, for example, you can more easily get your money out of a CD.
- Can come with higher yields. Brokered CDs often have higher rates than CDs you purchase directly from a bank, but not always. Shop and compare rates from multiple banks and brokers to find the best available APY.
- Hold multiple CDs in one brokerage account. Rather than owning single CDs from a number of different banks, you can purchase multiple CDs and keep them in a single brokerage account.
Cons of Brokered CDs
- Brokered CDs are callable. In some cases, the bank may redeem the CD before the maturity date. You would still receive your deposit money plus any interest earned before the call date, but you'd miss out on potential future earnings.
- Could be riskier. With a standard CD, the potential to incur a penalty fee for making an early withdrawal deters account holders from accessing their money sooner. Without that guardrail, you might be tempted to sell your brokered CD early on the secondary market and avoid the penalty. Consequently, you could miss out on potential earnings by selling too early for less than face value.
- May include an intermediary fee. You may have to pay a fee to purchase a brokered CD. Always make sure you understand the fees a broker charges before purchasing a brokered CD.
Brokered CD vs. Bank CD
A traditional CD is one you open directly with the issuing bank or credit union, while a brokered CD is a type of CD you open through a brokerage or investment firm. But that's not the only difference. Review the following chart to compare key differences between these two types of certificates of deposit.
|Brokered CDs vs. Bank CDs|
|Brokered CDs||Bank CDs|
|Interest Rates||Often provide higher rates, but interest doesn't compound||May have lower APYs but feature compounding interest|
|Deposit Insurance||Most are insured from the brokerage's underlying FDIC purchase, but verify the CD is a bank product, not a security||FDIC insured up to $250,000 per depositor, per bank and per account ownership category|
|Convenience||Can hold numerous CDs from different banks in a single brokerage account||Diversification requires opening different accounts for each CD you purchase|
|Fees and penalties||Option to sell CD on secondary market and avoid early withdrawal penalty. May have to pay a fee to buy CD.||Must pay early withdrawal penalty if you pull money from account before its maturity date|
|Term lengths||Offer broad spectrum of short- and long-term options ranging from one month to 10+ years||Typically offer short-term CDs but may last up to five years|
Should You Get a Brokered CD?
A brokered CD generally provides higher APYs than traditional CDs, a wide variety of term lengths and other benefits. However, these CD products are not for everyone.
A brokered CD may be a good option in the following scenarios:
- If you have a short-term investing goal, like saving for a house. In this case, the higher rates that brokered CDs often offer may help you reach your savings goal sooner. In this scenario, a high-yield savings account may also be worth considering.
- If you need more flexibility. A brokered CD generally has more term-length options, and you can withdraw your money early without penalty if you sell it on the secondary market.
- If you're looking for diversification. If you want to make a large deposit, a brokered CD allows you to spread your money across multiple CDs in one brokerage account. Most brokered CD accounts are FDIC-insured but always double-check before investing.
Conversely, a brokered CD may not be your best option in some situations, such as:
- If you value simplicity. Brokered CDs may be more complex and jargon-laden if you're new to investing. If your goal is simply to lock in a rate that provides the benefit of compound interest, stick with a traditional CD.
- If interest rates are dropping. The likelihood of a bank issuing a call on a brokered CD increases in a low interest rate environment. Opt for a noncallable brokered CD or a traditional CD if you don't want to lose out on potential earnings.
The Bottom Line
A brokered CD is similar to a traditional one but may provide you with a higher yield and more flexible loan term options. These CDs also offer more liquidity since you can resell them on the secondary market before their maturity date and avoid an early withdrawal penalty.
However, a brokered CD is not without risk. You could lose potential earnings if you sell your CD early at a price below the account's full value at maturity. Similarly, you could also lose future gains if your CD is callable and the bank ends it before it matures.